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Strong US Dollar: The Week Ahead – 19 Sep 2022

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It has been a terrible week in markets. It is not looking good for anybody, at least on the long side. A lot of that seemed to change when the CPI number came out. It’s like people woke up and terminal rate is going to be higher and just everything flushes out.

We talked through why the dollar is where it is and how long we expect it to stay there. Brent Johnson recently said that the USD & equities will both rise. And so we dived a little bit deep into that. We also looked at crude.

Crude’s obviously been falling. Tracy discussed how long is that going to last.

We also did a little bit of Fed talk because the Fed meets this week. And we want to really understand when does the Fed stop? After last week’s US CPI print, the terminal rate rose from 4% pretty dramatically. Does QT accelerate?

Key themes:
1. $USD 🚀
2. How low will crude oil go?
3. When does the Fed stop?
4. The Week Ahead

This is the 34th episode of The Week Ahead, where experts talk about the week that just happened and what will most likely happen in the coming week.

Follow The Week Ahead panel on Twitter:
Tony: https://twitter.com/TonyNashNerd
Brent: https://twitter.com/SantiagoAuFund
Tracy: https://twitter.com/chigrl

Time Stamps
0:00 Start
1:20 Key themes for this episode
2:24 What got us to stronger USD and will it continue to rise?
8:29 Dedollarization
10:23 Intervention in the dollar if it gets too strong?
12:22 Both the USD and US equities will be rising?
14:18 Crude: how low can it go?
18:03 Look at the curves for crude
19:17 Slingshot in December?
20:18 How India and China buys Russian oil and resell
21:33 Restock the SPR at $80??
22:57 When does the Fed stop raising rates?
29:33 What if Russia, Ukraine, and China don’t lock down anymore?
32:08 What’s for the week ahead?

Listen to the podcast version on Spotify here:

Transcript

Tony Nash: Hi everybody, and welcome to The Week Ahead. My name is Tony Nash. We’re joined today by Tracy Shuchart and Brent Johnson. So thanks guys for joining us, really appreciate the time to talk about what’s going on in markets this week and next week.

Before we get started, I want to remind you of our $50 promo for CI Futures. CI Futures is a subscription platform to get forecast for thousands of items: currencies commodities, equity indices and economics. The currencies commodities equities are refreshed every week. So every Monday you come in for a new forecast, economics forecast every month. That $50 a month promo ends on September 21. So please take a look now go in and check it out and if you have any questions, let us know, we’re happy to answer them. So thanks for taking the time to do that.

So, Brent and Tracy, it has been a terrible week in markets. It is not looking good for really anybody, at least on the long side. And so a lot of that seemed to change when the CPI number came out. It’s like people woke up and we’re like, oh no, the term rate is going to be higher and just everything flushes out, right. And earnings and a bunch of other stuff. So we can go into a lot of specifics. But one of the items that I’ve been really curious about for weeks, if not years, ever since I met Brent in 2018, 19, is the dollar. So we’re going to go a little bit deep into the dollar today.

We’re also going to look at crude. Crude’s obviously been falling. So we’re going to ask Tracy kind of how long is that going to last? And then we’re going to do a little bit of Fed talk because the Fed meets in the week ahead. And I want to really understand kind of when does the Fed stop.

So those are our key themes today.

So, Brent, welcome. Thanks again for joining us. I’d really like to talk through the dollar and we are where we are, which is amazing. And you have seen this years ago. On the screen, I’ve got a chart of our CI Futures forecast which shows a dollar continuing to rise over the next year. We’ve got some bumps in there, but for the most part we see a persistently strong dollar.

CI Futures provides highly accurate commodity, equity, currency and economics forecasts using advanced AI. Learn more about CI Futures here.

So I’m curious what got us here and what will continue to push the dollar higher?

Brent Johnson: Sure. Well, first of all, thanks for having me. I always enjoy talking to you, Tony. The reason I like talking to you is you’ll talk a lot about Asia, but you’ve actually lived there and you actually know what you’re talking about rather than people who’ve just read it in a book. And same with Tracy. So I’m happy to do this and happy to do it anytime you invite me.

But anyway, what’s really going on with the dollar is a function of the fact that it’s not only the Fed and it’s not only the US that has, for lack of a better word, idiotic leaders. The rest of the world does, too.

And I think over the last several years. At least in the retail investment world. There’s been this theme that the Fed is out of control. The government’s out of control. They’re going to spend all this money. The dollar is going to pay the price. And it’s going to get inflated away and go to zero. And the rest of the world is going to do great and we’re going to do poor.

And I understand that view if you just analyze the United States. But the problem is you can’t just analyze the United States because it’s a big world and everything is interconnected. And all of the problems that people have forecast to fall upon the US.

Dollar are currently happening to a greater extent in Europe and Asia. And the budget deficits, the printing of the money, the central bank support, the holding down of rates, all of that applies even more so to Japan and Europe than it does the United States. And that’s really what you’re seeing.

Over the last, let’s just call a year, you’ve seen the yen fall 20% versus the dollar. That is an incredible move for any currency, but it is an absolutely astonishing move for a major currency, specifically the third biggest currency in the world, or some would even argue the second biggest currency in the world. And then you’ve seen the euro over the last year is down 10% or 15%. 

So these are very big moves. Again, the reason is because the Fed is raising rates. So on a relative basis, we have higher rates than those two big competitors. And on a relative basis, those two big competitors are doing more monetary stimulus or QE or extraordinary measures, however you want to define that central bank activity.

And you always because the globe runs on the dollar, there is a persistent and consistent bid for the dollar globally. And so it’s really a supply versus the demand issue. Now, everybody always focuses on the supply. Central banks are increasing the currency in circulation. They’re going to print all this money and so therefore the dollar falls or the currency falls. Well, that’s just focusing on the supply side. 

But again, you have to remember that all central banks are increasing supply, but the demand is what makes the difference and that there is global demand for the dollar. Now, whether you think there should be, whether you think it’s the right thing, it doesn’t really matter. It just is. That’s the way the system works.

But there is not that same global demand for yen. There’s not that same global demand for yuan, there’s not the same global demand for euros or Reals or Florence or Liras or anything. 

And so what you’re really seeing play out is Trifan’s dilemma. And so I’ve spoken about this before. But Trifon’s dilemma is an economic theory that states that if you have a single country’s currency that also serves as the global reserve currency, at some point the needs of the domestic economy for that global reserve currency will come into conflict with the needs of the global economy. And that’s what we have.

We have an inflationary pressure problem in the United States. The Fed is very embarrassed about it. They got it wrong and now they need to do something about it. And they’re bound and determined to try to bring it under control. And so they’re raising rates to counteract that. Well, when you raise rates, you’re tightening the monetary supply. And that’s happening. That’s fine for the US. But there’s many countries around the world that cannot handle that right now.

But that’s what’s happening. And so the needs of the domestic economy are in conflict with the needs of the global economy. And it’s going to be the global economy that suffers more than the domestic economy as a result. It doesn’t mean that the domestic economy won’t be hurt. It just means on a relative basis, you want to be closer to the money than far away from the money. And because we have the global reserve currency, we’re closer to the money.

TN: So it’s interesting when you talk about the dollar versus other currencies, and we often hear people say, oh, CNY is rising as a share of spend, which that’s debatable. But from my perspective, it’s not the dollar that’s kind of in the gladiator ring of currencies. It’s the yen, it’s the euro, it’s the British pound, it’s the aussie dollar, it’s these secondary currencies. They’re going to lose share before the dollar does. Is that wrong?

BJ: No, I think that’s absolutely right. And again, that’s a very good way to put it. I know gladiator walks into the ring and thinks, I’m not going to at least get a few scratches. It’s going to hurt. That’s just the nature of being a gladiator. But what matters is who’s standing at the end of the day, right? And so I think it’s these other currencies are getting hurt by the battle more so than the dollar. It doesn’t mean that we’re not getting hurt. It doesn’t mean it doesn’t sting. It doesn’t mean there isn’t going to be any pain involved. But at the end of the day, if you’re at war, you want to be the last man standing because of the way the system is designed, I believe that that will be the US dollar.

The other thing that I would just quickly point out is a lot of people say, why can’t you see it? It’s very obvious. The rest of the world wants to de-dollarize. They’re putting all of these trade deals in place, the dollars falling as a percent of reserves, etc. And the point I would make is, yes, I do see it. I agree with you the world would like to dedollarize, but it’s much harder to dedollarize than just saying, just because you put an announcement out there doesn’t mean you’re actually going to be able to do it.

I’d like to make the analogy that I’ve said I want to lose weight and get in great shape for 20 years. It doesn’t mean it’s going to happen. It hasn’t happened yet. 

But that’s the headline versus reality, right? I just think that’s where we’re at. And the dollar, for better or worse, it’s a rigged game in favor of the dollar. And the US set it up that way is the global hegemon. They set it up that way. Now, it doesn’t mean they’re not trying. It doesn’t mean that the world doesn’t want to get away from it. It’s just very hard to do it.

The last thing I’ll say and I’ll shut up, but the other thing I would say is the process of de-dollarization, even if it is successful, will not be a calm transition. And the process of dedollarization is not necessarily, and in my opinion, not probable to be negative for the price of the dollar. I think the volatility and the lack of liquidity in dollars that would go along with de-dollarization would actually squeeze the price of the dollar higher.

And so it doesn’t matter to me whether de-dollarization happens or not. I think the dollar is going higher for all of these reasons.

TN: I think what’s funny there is people always put de-dollarization in this almost moralistic language. It’s a good or a bad thing. And it’s just not. It just is.

Tracy Shuchart: I just had a question for Brent. I mean, do you see at any point that there’s some kind of intervention on the dollar? The dollar gets too strong because it’s going to crush emerging markets? Do you think there’s any point in which Yellen kind of backs up?

BJ: I do think they will. And that’s why I think the dollar is going to go back to all-time highs before this is all said and done. I don’t think it’s going to be a straight line. It can’t be a straight line without absolute devastation. Doesn’t mean it can’t happen. But I think this is going to play out over several years rather than several weeks. It could play out over several weeks, but I think it will take longer.  And the reason I think it will take longer is I think that they will interact or they will get involved, as you’re suggesting, Tracy. 

I actually think right now the Fed and the Treasury want the dollar strong. I think they’re using it as a weapon or as a tool. It’s something that can be used very effectively. Again, whether you think it should be used or not, I don’t care. I just think it will be, and I think it is being and so I think that will continue.

But I think the Fed and the treasury, they want the dollar higher, but they want it done in a measured fashion that they can control. If it starts to get out of control, I think that they will rein it in. I think they want some of the other parts of the world to be an economic pain, but I don’t think they want the whole system to collapse. And so my guess is that we’ll get the dollar higher, maybe it goes to 115, 120, and then they’ll do something, it’ll pull back for six months, three months, whatever, and then it’ll get higher again and they’ll come out and do something.

So I think this will be a process, a little bit of a roller coaster, up and down, but I think that the general trend is higher and I think there’s more pain to come for the global economy as a result.

TN: Brent, real quick, before we get onto oil. You sent out a tweet earlier this week that said you think that we’re going to come to a point where both the dollar and equities and US equities are rising. Can you walk us through that just real quickly? I know there’s a very detailed thesis behind that, but can you walk us through that very quickly so we understand kind of what you’re talking about there?

BJ: Yeah, so the first thing I’ll say for anybody who’s just kind of passing through this conversation is that I don’t think this is happening right now. It could happen right now. In the short term, I expect US equities to go lower. I think that’s just kind of where markets are headed.

But as the pain develops throughout the global economy, I think we are going to experience a global sovereign debt crisis. And when the world, the US included, starts selling sovereign debt rather than buying sovereign debt, I think that money will have to go.

Now, some of the money will just be, it’ll just go poof. It’ll be gone. And so that money won’t have anywhere to go but the people who start selling the bonds looking for another place to go, I think the next best place to go will eventually be US equities. And I think US equities will be seen as the new… I don’t want to say new Treasuries.

That’s a little bit hard to say. But on a relative basis, the place where big global capital can go, that is the most advantageous to them. And so I think we will get into a point in the sovereign debt crisis where US equities will get safe haven flows and I think the whole world will potentially be printing more money, right.

So be sending more liquidity out there. And so I think that liquidity that is generated with little liquidity there is, I think we’ll find its way into the US and the US Dow, big blue chip stocks and I think they’ll go higher. I might be wrong on that, but that’s my working thesis as of right now.

TN: Let’s move on to crude oil. Obviously we’ve seen crude take some hits over the past few weeks and we’ve got a WTI chart on the screen right now.

So how low will crude go? Are we almost there? Are we headed to 65 where it was for a while? And what then pushes it higher? 

TS: I don’t really want to forecast exactly where crude is going to go. I definitely think that we could see some more downside, but we have to look at what is weighing on price and sentiment right now. One, there’s more Russian barrels on the market than everybody anticipated. 

Two, you’ve got never ending zero Covid China lockdown that haven’t seemed to let up yet. We also have EU recession, right? And then we had 160 million barrels of SPR thrown on the market. And so that’s really weighing kind of on the front end of the curve. Those are the things kind of weighing on sentiment right now. That’s why we’re seeing a lot of weakness. 

That said, if we look at the fundamentals of the market, the market is still very tight. We’re still drawing globally. We definitely have a diesel problem that is global. And I think where we start to see kind of a change in this, I think when it comes to the end of October, when the SPR is done this with kind of been looking over the last couple of weeks, had we not had such large SPRs, we would have actually been drawing a regular stock.

So it’s not as if that oil is going piling up anywhere. So I think as soon as the SPR stops, I think after Midterms, because I think this administration is trying to do whatever they can to suppress the price of oil, thus, gasoline. And I also think that we have to see kind of what happens in China after the People’s Party Congress in the middle of October and trying to see what their policy is going to be moving forward.

Are they going to open up? I mean, they’re looking at they want 5.5% YoY GDP by the end of the year,

which… 

TN: They’ll hit it. On the nose, we can guarantee that. 

TS: But I think they’re going to have to start stimulating the economy a little bit more. And we kind of saw announcement Evergrande is going to start financing more inspection projects and whatnot going into starting at the end of September. So I think we’ll probably see the last quarter if we get a little stimulus and if they back on their policy because, that’s the big thing for oil right now, is that if that demand comes back because they’re down about 2.7% on the year and as far as consumption is concerned.

So I think if that demand comes rushing back, know that’s going to be a huge upside surprise for the market. I think over the long run, oil is going higher, but out looking out into 2023, I just think that’s just the trajectory of it. I’m not calling for $200 oil, anything crazy like that. I just think that we will see higher oil, and I think we’re poised to see higher for longer than the functionality of the market and the fact that we have no capex for the last seven years.

TN: So last month you said to look three to four months out, look at the curves three to four months out to understand kind of what the real oil price was or is going to be. And so that would be two to three months now. So that’s November. December. 

TS: Look at those spreads are widening out or not, right. You want to see if we’re moving into more backwardation and even more backward dated market, right? So you kind of want to look at that.

TN: Okay, so I paid $2.88 a gallon for gas at my local last night. We’re the energy capital in the world. Yeah, I’m going to show it off. Anyway, that is kind of coming down. And energy has been the biggest upward factor in some of the inflation issues. That’s good news, at least until the election. Hey, I’ll take it while I can get it, right? And if it heads back up after the election, I think we’re all prepared for that on some level.

So I guess SPR, as he said, election happens, there’s no political reason necessarily to suppress these prices and so on and so forth. So do you expect to see almost a slingshot in, say, December, where things trend higher pretty quickly?

TS: I don’t think we’ll have… I don’t want to call it a slingshot because anything can happen in the oil market. I mean, we’ve seen $7 to $10 in a day before, so that’s not unheard of. But I do think we go higher, especially if you’re looking into the market, is going to get even tighter in December because of tax reasons. December 31 is the tax assessment date for the barrels that you have on hand. So they tend to pull back on production so they can move out inventory as much as they can, so they’re not taxed at the end of the year.

Usually we see a little decline in production anyway in December and the second half of December, we do see prices start to rebound off the seasonal for regular seasonal trend low.  Okay, so that would be normal.

TN: Brent, I think you had a question for Tracy on crude markets as well.

BJ: Yeah, I actually had two quick questions. One, I wanted to get your thoughts on the fact that India and China are buying oil at a discount from Russia. And then there’s lots of stories about them selling that oil

on to Europe or other places. And so they’re making that spread. I just wanted to get your thoughts on that and logistically how that actually takes place.

TS: So if you’re looking at India, definitely they are buying discounted crude. What they do is they don’t

resell that to Europe. What they do is they blend it and they sell fuel. So that’s refined. So it’s really hard to trace what’s in… They don’t trace those barrels that way.

So that’s how that oil is kind of emerging back in Europe. It’s really by way of refined products. Now when we talk about China with the gas, really what they’re doing is they’re buying gas right now, literally half off from Russia, and they’re turning around and selling their own gas to Europe for the higher marked up. The gas they already have. So they’re selling the gas they already have? So that’s kind of how that’s working.

BJ: And then the other question I have for you quickly is I was surprised this week when the rumor was floated by whoever floated that they would restock the SPR at $80. It seems like they’re doing everything they can to get the price lower. And then to have that rumor come out and put kind of a floor under it was kind of surprising to me. So maybe nothing more than just the speculation, but did you have any thoughts on that? 

TS: Yeah, I mean, basically they put a floor on it. Everybody’s calling it, the Biden put now. But the thing is that it’s all nice and well if they want to do that, they still got enough 60 million barrels that they need to release. And then by the time those contracts go through and you want to refill the SPR, I mean, that’s months away. We’re looking at months and months down the road. And who knows what oil price would be? To me, it was just another try to jaw bone market down lower.

BJ: It kind of reminded me of the ECB where they’re raising rates on one hand, but they’re buying bonds with the other. Biden wants his cap. He’s like got a collar on it. He’s trying to put a cap on it and a foot on it.

TN: Strategy. Let’s move on to a little bit more of kind of the Fed kind of Fed talk. There’s a Fed meeting next week, and when CPI came out this week, the terminal rate really rose very quickly. And that’s when we started to see equities fall pretty dramatically. And we’ve got on the screen right now expectations for the rates coming out of each meeting. So 75 in September, 75 in November, and another 50 in December. That has accelerated the expectations for the Fed by about 25-50 basis points?

When does the Fed stop, basically from where you are now, do you think this continues to accelerate in 2023 or given, let’s say, CPI? Of course on a year-on-year basis it looks terrible. But once we get to November, when CPI really started to accelerate, November 21, do we start to see some of those base effects in a year-on-year basis and the Fed starts to pull back a little bit and go, okay, wait a minute, maybe we’re okay with the plan we have when we stop at say 450 or whatever as a terminal rate.

The other complicating factor will add in there is University of Michigan came out, University of Michigan survey came out on Friday and it’s a bit lower than what was expected. And the Fed has really been looking to University of Michigan, which is kind of a semi-serious survey, but they’ve really used that to justify some of their decisions.

So we obviously have a mixed environment. But I’m wondering, with all of this stuff coming out this week, do we expect the Fed to keep marching pretty aggressively into 2023?

BJ: I’ll take that first. So I actually do expect them to keep marching higher into 2023. And I say that for a couple of reasons, and I’m going to qualify this and say that they will pivot when they have to pivot, but I don’t think they’re going to pivot until they have to pivot. And so I think a lot of people that are predicting the pivot are misunderstanding the Fed’s intentions and perhaps for a good reason. They’ve done a fantastic job of ruining their credibility. So it’s understandable not to believe them.

But in this case, I think you kind of have to believe them. And I’ll tell you why I think you have to believe them. Number one, I think they don’t mind the dollar being stronger. Again, I think that’s kind of policy that I spoke of earlier in conjunction with the treasury. 

Number two, I think they want asset prices lower. So the fact that the stock market goes down I don’t think would bother them. I think if the Dow was at 28,000 and the S&P was at 3600, I think they’d say that’s totally fine. I don’t think they have a problem with that as long as it’s not collapsing. Right? Now, if it collapses, then they have to come in. And they will come in,  but I don’t think they mind if the stock market is 10% or 20% lower than here.

The third thing I’d say is the Fed central banks in general, they’re always lagging. They’re a reactionary agency. They’re not a predictive agency. We all know that. They can’t predict anything anyway. I’m not sure I want them predicting things, but to me they’re always behind the curve because they always wait until they see it and then they react, right? They come in and they try to save the day. So when things get really bad, then they’ll eventually come in and provide support.

And when things are always too late to tighten as they are now, and then they try to make up for it. So I think they’re going to despite, like you said, the Michigan number starting to come down, Atlanta Feds already slash their GDP. So even though they’re getting these signals that things are slowing down, they’re not reacting to it yet. They will react to it late.

And then the fourth thing I’d say is that I think Powell is mad and he’s pouting, right? Not just Powell, but mainly Powell, but he got all this advice from all his staff and however many staff, PhD staffers they have at the Fed, and they all said inflation is transitory and it’s going to be fine. And then it wasn’t. Right? Now he’s mad.

TN: He’s a lawyer, not an economist.

BJ: And I’m going to do something about it. And if you don’t think that I can bring inflation down, well, then you just watch me, right? And I’ll take my ball and go home. And his ball is interest rate. So he’s taking them higher, and he’s taking them home, he’s taking them higher. And so it come hell or high water, and after the, I don’t know, the chink in their armor or the threat to their credibility that they’ve had over the last year or two, I think the last thing in the world that Powell wants to deal with is the fact that he slowed down or, God forbid, cut rates and then inflation kept going higher.

That would look even worse than waiting for it to crumble, right? So I think for all of those reasons, you kind of have to take them at their word. Again, I’m not saying not unless the markets force them to do it

and the markets might force them to do it. I’m not saying that that’s out of the possibility. The only thing I don’t like saying about this is this is the hole they’re going to hike until it breaks theory, right?

And I agree with that. The thing I don’t like about it is everybody else seems to agree with it now, too. That seems to be the common refrain, is that they’re going to hike until something breaks, and everybody says, yeah, that’s kind of what’s going to happen. Usually when everybody thinks something, it doesn’t happen that way. But as long as equity prices are higher and as long as inflationary prints keep coming in high, I think they continue hiking.

And think about it, inflation could fall by 30%, and it’s still at five or six, which is still two or three times higher than their goal. So is there a path to a pivot? Yes, I think there’s a path to a pivot, but every week, when people come out every week and, oh, they’re going to pivot, they’re going to pivot. I don’t think they’re pivoting next week, and I don’t think they’re pivoting in October unless they have to.

TN: Okay, Tracy, what do you think of that? 

TS: Yeah, I absolutely agree. All the data coming in, there’s no way they’re not doing 75 next week. In my opinion. I could be wrong. Somebody will come back. I think that’s pretty much a lock. 

TN: Yeah, I think short of, let’s say sometime in Q4, Russia, Ukraine ends, and China says we’re not going to lock down anymore, that would fundamentally change the Feds calculations, right? 

BJ: Well, if they weren’t locked down anymore and it pushed demand higher and it pushed prices higher as a result of demand increasing, then to me, that would keep them on their path to hiking. The flip side. And the flip side is that if something breaks in China, and China has to devalue or revalue the yuan in order to deal with the real estate collapse or the internal problems, whatever it is, that could send a deflationary wave to the rest of the world.

So I’m not going to sit here and deny the inflationary pressures that we’re seeing, but I think to a certain extent, people have again dumped themselves into the inflation camp or the deflation camp, and I think we’re going to have periods of both.

I think if you fundamentally understand the design of the monetary system, the threat of a deflationary

wave is always there. But if you don’t admit that the inflationary pressures are here, I think you’ve also got your head in the sand. I’ve said this several times, but I will admit to a big mistake, and that is, for several years, I hated the term stagflation. I thought it was a cop out. I thought it was for people who just couldn’t decide if they were in the inflation or deflation camp. But I think that’s what we have, and I think we have it in spades. I think some assets and some prices are going to continue to rise and be higher, and I think others are going to collapse, and that’s what makes it so hard to deal with.

So to anybody I ever took a shot at for them using stagflation as a cop out, I apologize. I’m with you now. I got that part wrong.

TN: Brent, one of the things I admire about you is you’re not afraid to say you were wrong, right?

BJ: No. I mean, do you mind if I just make a comment on this really quick? I think too often in our business, people will make a call and then they’re just so afraid to change it. Or you’ll make a call, and then somebody else will call you out on it if you got it wrong. At the end of the day, our job is sort of to predict the future. And so anybody who thinks that they can accurately predict the future 100% of the time has the biggest ego in the history of the world.

The reason I don’t mind making predictions is number one. I don’t mind being wrong because I don’t think I’m the smartest guy in history. And if I get something wrong, then I’ll have to deal with it. But this idea that we’re always going to be right and we know everything, it’s ridiculous. So anyway, we’re all speculating at the end of the day.

TN: That’s right. Okay, real quickly, guys, what are you looking for in the week ahead? More the same. More the same disappointment, difficulties, headwind, all that stuff. Until the Fed meeting? Is that what we’re looking for until the press conference?

TS: Yeah, I think we’re the markets will be in limbo, definitely until the Fed. I mean, everybody expects 75. We get 75. Maybe we see a bounce in equity, actually, because it’s already done with, right. There’s no question anymore.  So maybe we get a bounce after that. 

TN: Slightly less hawkish language than is expected, right? 

BJ: I think that’s right. Now we’ve got the potential of maybe 100 basis points, right. So if they come in a couple of weeks ago, although now there’s a path to pivot, they’re probably only going to do 50 basis points in September. 

Well, then we got the CPI print and it’s 75. That’s 75 is going to happen. Then a couple of people go hundreds now on the table, right? So now if they only come out and do 75, maybe the market kind of breathes a little bit. At least it wasn’t 100. So my guess is that we would have some volatility leading up to the meeting. Maybe they do 75. Perhaps things get a little bit of a bounce as a breather. 

But I don’t think markets are going to change a whole lot between now and the election. I think they’re going to be volatile. I think the Feds are going to keep hiking. And I think Market Powell said it himself. We had the boom and now we have to deal with the pain. This is the unfortunate side effect of what we have to do. So he’s telling you he’s going to cause pain. He just doesn’t want to collapse. So if it starts to collapse, it’s the sad truth.

TN: Guys, thank you so much for your time. Thank you so much. Have a great weekend and have a great week ahead.

Categories
Week Ahead

The Week Ahead – 08 Aug 2022: Low energy prices, China tech & stimulus, equity upside?

Learn more about CI Futures here: http://completeintel.com/2022Promo

Energy has taken a huge downside hit this week, in the wake of the OPEC+ announcement, US refining capacity utilization declining, etc. What’s happening? Why are we seeing differences between physical and paper crude markets?

Also, there was talk months ago about a new energy supercycle. Is that real? With China-Taiwan-US tensions tighter than they’ve been for years, we’re seeing Chinese tech stocks just muddle through. We haven’t seen a major hit – as if China tech will see major fallout from these tensions – but we also haven’t seen a major bump – as if China is expected to stimulate out of this to win domestic hearts and minds.

Also, could possible government intervention to solve China’s mortgage credit crunch be holding back the broad stimulus we’ve all expected for a couple of quarters?

Key themes:

1. Low energy (prices)

2. China tech & stimulus

3. Equity upside?

4. What’s ahead for next week?

This is the 29th episode of The Week Ahead, where experts talk about the week that just happened and what will most likely happen in the coming week.

Follow The Week Ahead panel on Twitter:

Tony: https://twitter.com/TonyNashNerd

Albert: https://twitter.com/amlivemon/

Tracy: https://twitter.com/chigrl

Time Stamps

0:00 Start

0:30 Key themes for this Week Ahead episode

1:51 Moves we’re seeing in energy markets – why there’s a fall?

3:39 How much of the energy moves is seasonal?

6:58 EIA computer “glitch” problem

7:24 What happened in the refining capacity now at 91%?

8:30 Capacity utilization fall – is this a statement about the denominator or falling demand?

10:14 Is the commodities supercycle happening?

12:13 China and technology – KWEB is not falling or rising

14:00 Will the Chinese government help real estate developers? Will that take away from possible tech stimulus?

16:58 Viewer question: Is there still upside benefit to SPY?

22:18 How will be the start of the Fed pivot — 25 or 50 bps rise?

24:45 What’s for the week ahead? Listen to the podcast version on

Spotify here:

Transcript

TN: Hi everyone. Welcome to The Week Ahead. I’m Tony Nash, and today we have Tracy Shuchart and Albert Marko joining us.

We’re going to walk through a number of topics today. First is energy prices, low energy prices. We want to understand why that’s happening and what’s around the corner. Next, we’re looking at China tech and potentially the stimulus in China and how that will impact tech.

Finally, we want to look at equities. What remaining upside is there in equities right now, given the environment we’re in? Before we get started, I would like to ask you to like and subscribe to the channel. Also give us your comments. We’re very active and respond to comments, so please let us know what you’re thinking. If there’s something else we should be covering, let us know.

Also, we have a promo for our subscription product, CI futures, right now for $50 a month. With CI futures, you get equity indices, commodities and currencies reforecast every week. And you get all of those, plus about 2000 economic variables for the top 50 countries reforecast every month. So please check it out on the link below. $50 a month for CI Futures.

Okay, so guys, we’ve had a really weird week with the Pelosi visit to Taiwan, geopolitics and the risk associated with geopolitics is kind of back on. We’re not really sure exactly how that’s going to resolve, but I’m really interested in the moves we’re seeing in energy, Tracy, and we’ve seen energy really fall throughout the week and I’m curious why we’re seeing that, particularly with crude, as we’ve seen geopolitics dial up. I know there’s not a perfect correlation there, but we typically see crude prices rise a bit with geopolitics. 

TS: I think, it’s a combination of a lot of things. First of all, we’ve had which is ramped up to 200 million barrels being released to the SPR, which is fine initially, but we’re looking at the cummulative effect of this. In fact, we’re releasing so much so fast that now those barrels are actually finding their way overseas because we have nothing else to do with them. We can’t process that much right now.

And so we’re looking at that which is putting a damper kind of on the front end. We’re also looking at the fact that open interest is almost at the lowest in a decade, which means there’s nobody participating in this market. People are just not participating in this market.

In addition, we have physical traders that are completely nonexistent in this market anymore. They’re all trading via clear port on the OTC market as I’ve talked to actual physical traders, they don’t even want to be involved in this volatility.

And so that’s also taken a lot of open interest out of this contract. So this contract is easily pushed around because there’s just not of liquidity.

TN: How much of that is seasonal? How much of that is because it’s early August, late July, early August?

TS: It is seasonal. I will give you that because this summer is the summer lag. We generally see more participants in getting in September, and we’ll have to see how that kind of plays out.

But in general, the market is, this whole dive started in, was this market was factoring, we’re going to have this huge recession. Right? It’s going to be low berry session. Demand is going to go up.

And then we have this EIA discrepancy. The discrepancy was on gasoline demand. Actual gasoline demand versus what the DOE is reporting. Right? And ever since they had that “glitch,” where we had two weeks of no reporting whatsoever, those numbers suddenly changed.

And now they’re putting gasoline demand at below 2020 numbers at the height of COVID, which is to me,

not to sound conspiratorial, but to me, there’s just no way that we are below 2020 numbers. Right. And if you look at Gas Buddy demand, which is they look at a kind of a different look. What they look at is how

many gallons are being sold per station across the nation. And that’s how they kind of factor in what demand is. DOE is at the midpoint, right? So it’s like the midstream level. But those numbers should

eventually correlate. That discrepancy should eventually get together.

TN: So Gas Buddy is showing demand still growing, and DOE has it kind of caving. Is that correct? You know what I’m saying?

TS: Okay, yes. First of all, I think we need to look at the 914 numbers, the monthly numbers, which are definitely lagging. They’re too much behind, but they have been correct on production. Right? So I think they have weekly production at 12.1 million. Last 914 monthly report was at 11.6 million. So it is lagging information. But we have to start really looking at these weekly numbers and what the DOE is reporting and what they’re not reporting.

TN: If anything, what I’m seeing just observationally traffic seems to continue to grow. Like, I’m seeing more people going back into the office. I’m seeing more people take drives where they wouldn’t have taken long drives before. So what we’re seeing out of DOE doesn’t really match with what I’m seeing observationally. I could have selection bias, but it just doesn’t seem to match what we saw in April, May

of 2020. 

AM: Tracy is absolutely spot on on that. I actually had a few people note that the EIA computer “glitch” problems set all this thing off in the DOE inventory shenanigans. It’s starting to gain more traction with everybody. It just doesn’t add up. When things don’t add up, bad data comes in, and it’s politically advantageous for the moment try to get gasoline down, going into midterms. I mean, Tracy is absolutely 1000% spot on that assessment.

TN: So, Tracy, I want to ask you a couple of questions. We’ve got a chart on refinery capacity utilization, and it shows capacity utilization at about 91%. So last month we were talking about being at 94%. Now it’s at 91%. What’s happened? Has the Denominator going? 

TS: Well, that’s not actually a bad thing. Let me tell you that. Refineries operating at 94% 95% leads to a lot of problems. You’re going to see problems with maintenance, you’re stretching that capacity. Personally, I love anything over 90, 91. I’m much more comfortable with than 94 95%, which we got to, which is very stressing to me because you’re stressing those refineries, right. And that’s going to lead

to problems down the road. So for that to come down, it’s not a big deal to me, to be honest. Anything above 90, great. We’re good.

TN: Okay, so we’ve seen gasoline prices fall as we’ve seen capacity utilization fall. And so is that a statement about the, say, the denominator meaning the available capacity, or is that a statement about falling demand?

TS: I don’t think it’s a statement about necessarily anything. Okay. To be honest. Is the expectations around say that the gasoline price falling, is it expectations maybe around recession, but given the job numbers we got? Expectations about being around recession right when we’re seeing these prices fall. And I think we have a lack of participants in this market, especially lack of participants in the physical markets. The physical guys, like guys that trade for BP and Shell, which is where they’re just not in this market anymore because it’s too volatile, it’s too pulled around, and they can’t deal with that right now. So there’s nothing structurally changed about the physical markets right now.

You have to understand, too, is that the paper markets far outweigh the physical markets, meaning that there’s far more paper barrels traded than there are actual available physical barrels on the market

to be traded.

And when we look at a contract like WTI, which is actually physically deliverable, and we look at the market participants that are involved in deliverability, that is shrinking, shrinking margin, and then you look at something like the Brent contract, is completely just a financial contract.

So there’s a lot of hanky panky goingon in that market.

TN: Okay, now one last question while we’re on crude. Months and months ago, we kept hearing about this emerging commodities super cycle. And as we’ve seen commodities fall over the past few months, there have been some questions about is that really happening? So where are you? Do you think we’re in the early stages of another super cycle or do you think we’re just kind of modelling through?

TS: I actually think we’re still in the early stages of a super cycle. I mean, I think we’re kind of like I think my best comparison sake would be like, let’s look at the 1970s, right? And everybody’s looking at that ’73, ’74 when the oil embargo happened. But I actually think we’re closer to the ’67, ’69 era where we saw inflation kind of hit. Right. They tried to hide us into a recession, and then we had another peak in ’73, ’74 because issues with the market and then we have a third wave. So I actually think we’re only in this first wave of an inflationary cycle as far as commodities are concerned, okay.

Because we’re still in a structural supply deficit across not just the energy sector, but base metals, agriculture, et cetera. but you have to think your input cost for metals and for agriculture, it’s all energy.

So if energy is high to see inflation in energy costs, then you’re going to see inflation across all

of these commodities. We’re at $90. We were at negative $37 two and a half years ago. So to think that we’re crashing? You know.

TN: Okay, let’s switch over to China and technology and kind of talk through a few things with Albert. Obviously. Albert, we spoke earlier about Pelosi’s visit to Taiwan and US. China Taiwan affairs, and I’d recommend anybody view that that we published on Tuesday night US time. But I’m curious, Albert, as we look at and we’ve got KWEB up on the screen, which is an ETF of Chinese technology companies, it’s kind of middling. It’s not really falling. It’s not really rising. It seems like people are a little bit uncertain about what’s happening with Chinese tech. We have the closures of different cities. We have one of the big manufacturing cities that’s going zero COVID now.

And we obviously have the China Taiwan issues. What are your thoughts on China tech right now? And what should we expect over the next, say, two to three months?

AM: Well, over the next two to three months, I think China is going to be forced to stimulate. Once they stimulate names like KWEB, Alibaba actually, I really like Alibaba. There’s some good things happening there. I mean, the delisting stuff is a risk and it’s always been a risk, mainly because Gensler and Yellen have been trying to suppress the Chinese to stop stimulus because it hurts the United States and their plans to fight inflation.

So, yeah, I’m really bullish on KWEB. I really like it at 25 26 level. It’s not that far from where we are right

now. For the Chinese tech, it’s like, I don’t really think domestically, there’s too many problems domestically for KWEB. For me, it’s just all the delisting risk and that shot, the warning shot across the bow from the US. 

TN: Okay, so when you talk about stimulus, I want to understand a little bit of the substitutionality of stimulus. So if we have this big mortgage crisis in China where owners aren’t paying their mortgages,

and that’s even worse on the property developers, and there are trillions of dollars at risk there, do you think the Chinese government will intervene  and help those property developers? And if they do, will that take away from stimulus that could help technology companies?

AM: They will step in, but they’ll step in selectively for the most systemically important property developers. Not just the best connected, but the ones that touch the most debt and whatnot. So they don’t want things getting out of control. So for sure they will step in. I don’t think it will take away from the tech

sector at all. I think that the Chinese have been pretty pragmatic and diversifying how they get money into the system, whether it be other Asian countries, the US, Europe and whatnot. But they’re definitely in line right now to stimulate the economy going into the fall.

TN: Okay, great. If you’re trying right now and you’re talking about stimulus, that is to make up for kind of the COVID Zero close downs, but it’s also, I would assume, kind of winning some of those hearts and minds going into the big political meetings in November. Right, so you’ve whipped up nationalism with the Taiwan thing over the last couple of weeks and now you need bridge to get you to November. So you’re going to put out a bunch of stimulus to keep people fairly nationalistic and obedient. Is that fair to say?

AM: Yeah, that’s definitely fair to say. I think going even a little bit further than that is keeping the circle around Xi happy. That nexus of connected families that make money off the tech sector manufacturers. They need to be able to solidify it economically and stimulus will be targeted like that. And so when you say keep those families happy. You’re talking about skimming, you’re talking about sweet deals on contracts and that sort of thing.

TN: And I just want to make clear that doesn’t only happen in China. That happens in every country, right?

AM: Oh, every country you can imagine that happens. How politically connected with the donors, the political parties and so on and so forth. I just want to make clear to viewers. Like everybody. 

TN: Yeah, I just want to clear to viewers, we’re not just picking on China. This happens everywhere. 

AM: No, this is nothing negative towards China whatsoever. This literally happens in every country in every single country. Yeah.

TN: We had a question come in from a regular viewer talking about one of Sam’s calls. He’s not here, so he can talk behind his back today. The question was, Sam had talked about risks being to the upside a while ago for SPY, for the S&P 500. Now that we have had a mini rally, does he still see higher as the path of least resistance or is the risk reward fairly balanced here? I mean, we’ve seen a really nice uptick in the S&P and equities generally. Do you think there’s still upside benefit, or would you be a little bit hesitant in terms of the broad market?

AM: I’m bullish for a week, basically going a week, maybe two. I think that the CPI number is probably going a little bit lower than people think. And then all the peak inflation people are going to come out the woodwork and then they’re going to talk about Fed pivot, whether it’s real or not. I don’t think the Fed actually pivots. I think they just build a narrative of a pivot, if that makes sense, to rally the market.

But going forward, the economy is not a good footing. The job numbers are just not accurate. It’s a purely political headline for Biden going into the midterms. CPI is going to follow the same suit. They’ll probably have a 50 basis point rate hike in September and say that they’re slowing down. And whether it’s real or not. 

TN: I want to question you just to push back a little bit. When you say the economy is not on a good footing, what do you mean? Help me understand how it’s done on a good footing? 

AM: Well, the whole jobs? Listen, 20% of people don’t have a job. 19% of people have two jobs or more. You’re sitting there making this glorified headlines thatBiden is great for the job market and the economy, but it’s just not accurate. We have people that are struggling paycheck to paycheck more than any time in the last 20 or 30 years. So the underlying economy, forget about the top half that are millionaires that are buying whatever, the bottom half of the country is an absolute recession. So that’s what I’m saying the economy is not good.

TS: I mean, I totally agree with Albert. I mean, I’ll make a case for the bullish side. Let’s put it this way. So not a single trades work this year. Average hedge fund scrambling on how to salvage this year. There’s no other choice, really, but to get long. I mean, we have long going girlfriends been shell shocked. Font, shitty year. Value guys waiting to buy the dip in cyclicals. So I think that until when November comes and we have redemptions and these guys are faced with losing money from clients, I think that right now they have no other choice than to buy the dip, which is really interesting because that coincides with midterms. But not to put on my tinfoil hat there. So that’s my case for we may see a little bit higher than people that anticipate.

Even though I agree we’re still in a bear market. Albert makes a ton of good points, totally agree with

him 100% on that. But for the next few months, we may be looking at different kinds of things, especially because we also have the CTAs that are still super short.

So we have the possibility that we could see a short squeeze now if hedgies start

eating up the market and… This is exactly what the administration wants to see, because they want to see the S&P higher going into Midterm electric if it makes them look great. Of course.

AM: And Tracy is right. And this goes back into the oil numbers from the DOE and the EIA Shenanigans. They lower gas, they try to get inflation lower. They rally the market going into Midterms. It’s just the way it is. Now, going back to the economy, real quick, Tony, I see across the street the US consumer credit was $40 billion. I mean, people are spending and collecting debt like it’s going out of stock.

TN: That’s not a good number. You saw my tweet this last week about the $15 grapes. I mean, that sounds ridiculous, but people are having to. I talked to people about their electricity bills and they’re doubling and tripling over the last few months. And so people are having to do this. Rents are doubling in New York and so on and so forth. So it’s hitting everybody. And people are having to tap into consumer credit just to make ends meet.

AM: Just for the viewers, Tony, the forecast was 27 billion. It came in at 40.

TN: Wow. That’s a slightly overestimate, I would say. Let me ask you a quick question about the Fed pivot. Okay. You say the Fed is going to kind of act like they pivot but not actually pivot. So would that mean and I know everyone’s been on Twitter today or on social media saying, oh, the job’s number puts 75 basis points in focus again, all this stuff. But would the start of a pivot be 50 or 25 basis point rise?

AM: The start of a narrative of a pivot would be 50. But let’s just be honest. Inflation is not going away. They can fake a CPI number, maybe one, maybe two months. But come October, December, January, and inflation is raging, nine point whatever, 9.5%, 10%. They are going to have to keep going 75 basis points. 

TN: So when you talk about a pivot, you’re talking about the beginning of a pivot, maybe a 50 basis point rise in September or something just to kind of ease nerves off a little bit?

AM: Yeah, that’s exactly what it is. It’s just the beginning of a narrative to move the market. It’s all it is. 

TS: Okay, if we went 50 instead of or even 25 instead of 75, which the market is expecting, the barn market would freak out. 

TN: Now what happens to commodities in that case, Tracy, if we’re in September and we go 50? You’re

going higher.

AM: Okay, this is the problem I keep telling screaming people and why I didn’t think that’s why I didn’t think this rally was a good idea is because all of a sudden now you’re going to create this stupid pivot narrative and do 25 or 50 basis points. But then, like Tracy just mentioned, commodities are going to rip. What’s that going to happen then? We’re going to have stage two of inflation coming around in 2023. That’s going to make this like nothing.

TN: Yeah, but as long as it happens after November, I think. Everything’s fine. Right. No, seriously, we have to think we’re in that. We’re in those closures.

TS: You have to think everything is political right now. So every decision is political right now and you have to factor that into kind of your investment thesis right now.

AM: Tracy’s absolutely right. I was just talking to a client. I said I don’t want to hear anything after November of this year. This era is this era right now. After November is a different era. We’ll talk about that accordingly in the next month. But until now it’s just a pure political game.

TN: What are you guys watching in particular for the week ahead?

AM: CPI. I think the CPI comes in a little bit lower than people expect and will rally the market for another 100 points. Like a seven handle or something? I think it’ll be a seven handle.

TS: I mean, everybody is watching CPI, I agree. I’m watching CPI as well. I think what’s really interesting going into this next week is I would start looking at Basin Industrial Metals and miners at this point because I think that they are lagging crude, they have been lagging crude oil. But we’re kind of starting to see a little bit of turnaround. So my focus really is going to be on base and industrial metals.

Categories
QuickHit

Crude oil: New super cycle or continued price moderation? (Part 2)

This is the second part of the crude oil discussion with energy markets veteran Vandana Hari. Tony Nash asked if the political tensions in the Middle East will affect oil prices in this environment, and how soon can we see the effect in oil prices if the Iran agreement is made? She also discussed her views on the Texas shale industry and when can we see a bounce back, or if we’ll ever see one.

 

The first part of this discussion can be found here.

 

Vandana Hari is based in Singapore. She runs Vanda Insights and have been looking at the oil markets for about 25 years now. She launched Vanda Insights about five years ago. The company provides timely, credible, and succinct global oil markets, macro analysis, mostly through published reports.

 

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This QuickHit episode was recorded on May 19, 2021.

 

The views and opinions expressed in this Crude oil: New super cycle or continued price moderation? QuickHit episode are those of the guests and do not necessarily reflect the official policy or position of Complete Intelligence. Any content provided by our guests are of their opinion and are not intended to malign any political party, religion, ethnic group, club, organization, company, individual or anyone or anything.

 

Show Notes

 

VH: And then, of course, we have Iranian oil and we could talk about that separately. So there’s plenty of supply.

 

TN: Let’s move there. So let’s talk a little bit about the Middle East with. First of all, with the political risk around Israel Palestine. Is that really a factor? Does that really impact oil prices the way it would have maybe 20, 30 years ago?

 

VH: OK, so with regard to the Israeli-Palestinian conflict that we’ve seen flare up in recent days, the short answer is no. Oil, it’s not even a blip on the radar of the oil complex. Now, obviously that’s because those two countries are neither major producers or consumers of oil. It is also not affecting shipping, the kind of fear that was in the markets, for instance, when ships were attacked in the Strait of Hormuz or the Red Sea.

 

But having said that, generally the oil market is keeping an eye on how that region, the tensions have been escalating. The Iranian and Arab tensions have been escalating. We have seen more attacks over the past few months. It seems to have died down a little bit recently, but more attacks from by the Houthi rebels just managing to miss white facilities in Saudi Arabia. So, yes, it is an area of concern. But somehow the oil market, maybe because there is enough oil available against demand, but the oil market has sort of almost gotten into this pattern of, that’s a knee jerk reaction. Every time, it looks like a supply might be affected from that region. But the oil complex has just been generally reluctant to price in on a sustained basis of geopolitical fear premium.

 

TN: Yeah, I can see that. That’s very evident. With the JCPOA, with the Iran agreement, how much of a factor would that be to supplies and over what timeframe would it be a factor? Would it be an immediate factor? Would it be something in six months time from if an agreement is made?

 

VH: We know the indirect talks that have been going on between the US and Iranians the past few weeks, and then there’s been a bit of confusing signals as well in terms of news emanating earlier this week. We had a Russian diplomat say that, oh, it’s on the verge of a breakthrough and then retracted so it doesn’t help the oil market of anybody as opposed to have that adding to the confusion. The oil market has made its calculations.

 

First of all, Iranian oil production as well as exports have been edging up. That’s a fact. Now, obviously, there’s no clearly transparent data, but there’s plenty of ship tracking companies, all of which have very clear evidence that there’s more oil going into China.

 

So to some extent, you could argue that crude prices today have factored in a little bit of extra Iranian oil coming back into the market. Just to remind our viewers that it never went down to zero. There was always Iranian in oil flowing into and we’ll not go into the details of that. But basically it’s sort of bypassing the US sanctions. So the question now is how much more Iranian oil can come into the market and when it could come into the market?

 

And I would add a third point to that is that what will OPEC+ do to that if it ends up pressuring prices? So how much more oil could come into the market? An estimated 1.2 million barrels per day additional oil could come if the sanctions are removed. When it could come back into the market? I’m no more privy to what’s going on behind closed doors in the discussions than the next person. But my personal feeling from reading what’s coming out of these talks is that it’s a very complex set of issues.

 

There’s a lot of politics going on when people come out and say, oh, we’ve made progress and so on. But it’s a complex web. It’s multilayered. I personally don’t expect sanctions to be removed before next month’s Iranian elections. So sometime this year, yes. But not right away.

 

And here’s the point I would make as well, is that I don’t think OPEC-non OPEC alliance will sit on their hands and see, especially if crude starts spiraling downwards with the Iranian oil more than Iranian oil coming back into the market. I think they will make adjustments accordingly. If the market can absorb it without a big hit to oil prices, well then good, you know, which is what was the case with Libya last year. But if it can’t, I think they’ll just redistribute that sort of cut back a little bit more or taper less basically. So either way, I don’t see that putting a huge downward pressure on crude.

 

TN: I’m in Texas and so we haven’t really seen a lot of new capacity come online with the with the Texas plays over the past few months as prices have risen. So what will it take for Texas to kind of install new rigs or re-open rigs and get things moving here? What are you looking for and what do you think the magic number is? I mean, if it hasn’t been hit already? What do you think needs to happen for Texas to kind of reopen some of these fields?

 

VH: Yes, we saw oil rigs across the US, which is a very crucial measurement of the activity in the shale patch, especially. We saw that number crash last year. And I look at the fracturing fleet count as well, which tells you exactly how much oil is being drilled out of those wells. But not just how many wells are being drilled. So both of those have been creeping up from from the crash of last year. I think since about August last year, they they have been moving up. But if you compare year on year still, that the total rig count is just half of the levels before Covid last year. Overall, US oil production and shale is the lion’s share of it has dropped from about nearly 13 million barrels per day to about 11. Two million barrels per day of capacity has basically disappeared from the shale patch.

 

And for OPEC, as well as for the oil market, I think it’s a key area to keep an eye on because we have seen in the previous boom and bust cycles and oil price up and down cycles, that shale was very quick to respond to oil price recovery. I think the story is very, very different this time. There’s a few influencing key factors, which are all pulling in the same direction.

 

So first of all, on a very sort of global level, we know that generally, funding is drying up in fossil fuels. OK, so that’s a baseline. That’s affecting conventional fuel. It’s affecting shale equally. The second is that we see and this has been an ongoing trend over the past few years, more and more majors have made inroads into majors are now independent players still produce the majority of the tight oil from the US shale. But the majors have become quite significant players as well. And almost every major that you tune into is saying that we are going to be very, very cautious in… We’d rather return money. We’d rather pay down debt, cash discipline, essentially. We would rather return money to our shareholders than invest in just growth at any cost. That’s happening.

 

When it comes to independence. I think they’re going their own ways, basically. You can’t say all independents have the same philosophy. But again, when I listen to the major independent players, they pretty much are also into cost discipline strategy. If you aren’t, are going to just have a tough time, far tougher time than than the previous down cycles in getting funding. So we generally see that funding for the shale sector is also starting to dry up.

 

I suppose banks and lenders and shareholders probably just seen enough of that, how sales fortunes go up and down. If you’re a long term investor, it’s not really an area of stability. So all of these put together to lead me to conclude that the EIA thinks shale production will creep up a little bit this year. But of course, compared with 2019, they’ll still remain low. It’s predicting quite a big bounce back in ’22. But I’m not that sure about it. I have a feeling that it’s probably going to sort of plateau from here on.

 

TN: OK. Really interesting. So it sounds like kind of that marginal barrel that would come from shale to be honest, isn’t really that necessary right now given the cost that it would take to reopen the rig. Is that fair to say?

 

VH: Yeah. And then you have to remember that the OPEC is sitting on that marginal barrel of supply as well. And that has to come back into the market. And you have to see prices supported, let’s say WTI, well above sixty dollars. And then ask yourself that have any of these, the three conditions that I outlined earlier changed substantially enough for shale to go into a boom again? So I think the answer is pretty clear.

Categories
QuickHit

Crude oil: New super cycle or continued price moderation? (Part 1)

Energy markets expert Vandana Hari is back on QuickHit to talk about crude oil. Brent is nearly at the $70 psychological mark and is also a 2-year high. However, demand has not picked up to the pre-Covid levels. Vandana explained what happened here and what to look forward to in the coming year. Also, is crude experiencing supply chain bottlenecks like in lumber and other commodities and how oil demand will pick up around the world?

 

Vandana Hari is based in Singapore. She runs Vanda Insights and have been looking at the oil markets for about 25 years now. The majority of those were with Platts. She launched Vanda Insights about five years ago. The company provides timely, credible, and succinct global oil markets, macro analysis, mostly through published reports. They are also available for ad hoc consultations and research papers.

 

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This QuickHit episode was recorded on May 19, 2021.

 

The views and opinions expressed in this Crude oil: New super cycle or continued price moderation? QuickHit episode are those of the guests and do not necessarily reflect the official policy or position of Complete Intelligence. Any content provided by our guests are of their opinion and are not intended to malign any political party, religion, ethnic group, club, organization, company, individual or anyone or anything.

 

Show Notes

 

TN: I want to talk about crude oil, because if we looked a year ago and we saw where crude oil prices were a year ago because of the Covid shock and we look at where crude is today, it’s something like two-year highs or something like that today. And we still have kind of five or six million barrels, we’re consuming about five or six million barrels less per day than we were pre-Covid. Is that about right?

 

VH: Yeah, absolutely. So we have had a Brent flood with the $70 per barrel psychological mark, it has not been able to vault it in terms of, you know, in the oil markets, we tend to look at go-buy settlements. So we’re talking about ICE Brent Futures failing to settle above 70 dollars a barrel? But it has settled a couple of times so far this year, just below, which was two-year highs.

 

And the man on the street, as you quite rightly point out, does end up wondering. And I’m sure people at the pump in the US looking at three dollars a gallon prices that hang on like the global demand is yet to return anywhere close to pre Covid. So why are prices going to two-year highs?

 

So two fundamental reasons. If you talk about supply and demand in the oil markets, the first one is the OPEC – Non OPEC Alliance is still holding back a substantial amounts of oil from the markets. If you hark back to last year when they came together in this unprecedented cutback, almost 10 million barrels of oil per day, cumulative within that group, they said they’re going to leave it in the ground because of the demand destruction.

 

Now, starting January this year, they have begun to so-called “taper.” Yes, people borrowed that as well in the oil market. All over the place. Yeah. So they’re tapering. But they’re doing it very, very cautiously.

 

So where do we stand now? They are still holding back almost six and a half million barrels per day. So basically two thirds of the oil that they took out of the market last year is still, they’re still keeping it under the ground. So that’s one main reason.

 

The second one is a bit, of course, demand has been picking up as countries and globally, if you look at it, I mean, we can talk about individual countries, but globally, you know, the world is starting to cautiously emerge out of Covid-related restrictions.

 

Economies are doing better. So oil consumption is moving up. But but some of, it’s not entirely that. I would say some of the the buoyancy in crude of late, and especially when it was, you know, Brent was a two-year highs, is because of a forward looking demand optimism. And when it comes to that, I think it’s very, very closely connected or I would say almost entirely focused on the reopening of the U.S. economy.

 

TN: OK, so. So this is a forward looking optimism, is it? I know into other areas, like, for example, lumber, which has been there’s been a lot of buzz about lumber inflation is because of the sawmills and with other, say, commodities, there have been processing issues and with, you know, meat and these sorts of things that have been kind of processing issues and bottlenecks in the supply chain. But with crude oil to petrol, it’s not, it’s not the same. Refineries are doing just fine. Is that, is that fair to say?

 

VH: That’s a very good point, Tony, to to just kind of unpick a little bit. Because what happens is when you hear talk of super cycles, commodities, bull run, and then, of course, we have a lot of indexes and people trade those indexes, commodity index, we tend to lump together, you know, commodities all the way from copper and tin, lumber and corn all the way to crude oil and gasoline and gas oil and so on.

 

But, you know, here’s what. You know. We could spend hours talking about this. But, but just very quickly to dissect it, I would say look at it in terms of you have commodities. And I would sort of lump metals and to some extent agricultural commodities in this one Group A and Group B.

 

So as I mentioned earlier, Group B, which is which is oil. Well, crude oil and refined products, to a large extent, the prices are being propped up by OPEC, plus keeping supply locked out of the markets. It’s very different from, as you mentioned, what’s happening in metals and ags and these kind of commodities where it just can’t be helped. So there’s supply chain issues, this production issues all the way from from Chile, where copper production all the way to even here in Malaysia, you know, palm oil, because workers are unable to return fully. Or in terms of even the the packaging, the storage and the delivery of it. So I think there’s a major difference there.

 

Now, the commonality here is, of course, all of these are seeing demand rebound. You know, that I agree as a commonality. Demand is rebounding. But I think it’s very important to remember. And why is it why is this distinction important is that you could argue that, well, if demand continues to sort of go gangbusters in terms of copper, tin, lumber, it will, for the foreseeable future, meet against supply constriction. So you cannot.

 

So accordingly, you can assess what might be the prices of these commodities going forward. They may remain elevated, but it would be wrong, I think, to sort of draw a parallel between that and oil, because in oil, I do believe OPEC non-OPEC are waiting. In fact, I don’t think they can hold their horses any longer, waiting to start putting that oil back into the market. So, you know, keep that distinction in mind.

 

TN: So there’s an enthusiasm there. So let’s say we do see demand kind of come back gradually, say, in the U.S., a little bit slower in, say, Europe. But China is moving along well and say Southeast Asia, east Asia is coming along well. The supply from the OPEC countries will come on accordingly. Is that fair to say?

 

VH: Absolutely. And when you talk about demand, again, I think there’s a sort of a bias in the crude futures markets, which tend to be the leading the direction for the oil complex in general, including the Fiscal markets, is that there’s definitely a bias to looking towards what’s hot right now, at least looking towards what’s happening in the US and getting carried away a little bit. Because when you look at the US, it’s a completely positive picture, right?

 

You base that, you see things around, you see how people are just kind of moving away. You’re removing mask mandates, people are traveling. And, of course, we’re getting a lot of data as well. The footfall in your airports. The other thing about the US is you have good data, right. Daily, weekly data. So that continues to prop up the market. But if you just cast your eye, take a few steps back, look at the globe as a whole. And, you know, sitting here in Asia, I can shed some light about what’s happening here.

 

No country is opening its borders in Asia, OK? People are, for leisure. If people are even not even able to travel to meet their family, you know, unless it’s in times of emergency, unfortunately. So nobody’s traveling. The borders are sealed very, very tight.

 

There is an air bubble, travel bubble between New Zealand and Australia. But, you know, nobody’s bothering to even check what that’s doing to jet demand. What do you think it will imagine? You imagine it will do.

 

And then you have Europe in between, which is, yes, again, it is reopening very cautiously, though. We’ve had the UK Prime Minister, Boris Johnson, cautioning that the travel plans for the Brits might be in disarray because of this so-called Indian variant. I don’t like to use that term, but this virus more transmissible virus variant. So it’s a very patchy recovery. It’s a very mixed picture, which is why I’m not that bullish about global oil demand rebound as a whole. You know, at least the so-called summer boom that people are talking about.

 

TN: Do you do you see this kind of trading in a range for the next, say, three or four or five months or something? Demand come, supply come, demand come, supply comes something like that.

 

So there’s not too much of a shortfall for market needs as kind of opening up accelerates?

 

VH: Very much so. I think, first of all, unfortunately, I mean, as individuals, of course, we like to be positive and optimistic. But with an analyst hat on, we need to look at data. We need to use logic. We need to overlay that with our experience of this pandemic, the past one and a half years.

 

Somehow, we’ve had a few false dawns, unfortunately, during this pandemic. We’ve seen that right from the start. When you remember the first summer, 2020 summer, some people said, oh, the heat and all that, the virus will just die away.

 

So, again, I think we need to be very, very cautious. I do think, unfortunately, that this variance and as you and I were discussing off air earlier, this is the nature of the virus. So I think there’s going to be a lot of stop, start, stop, start. The other thing I see happening is that it’s almost like, I imagine the virus sort of it’s moving around. And even if you look at India now, it’s just gone down in the worst hit states of Maharashtra and Delhi. But now it’s sort of moved into the rural area.

 

So I think sort of, unfortunately, is going to happen globally as well. The other important thing to keep in mind is, is vaccinations, of course, is very, very uneven. You know, the ratio of vaccinated people in each country so far, the pace at which the vaccinations are going and, you know, not to mention the countries, the poorer, the lower income countries.

 

So we’re probably going to see, you know, maybe a bit of start. Stop. Definitely. I don’t think we’re going to see national boundaries opening up to travel any time soon. And then exactly as you pointed out, we have this OPEC oil and then, of course, we have Iranian oil and we can talk about that separately. So there’s plenty of supply.

 

TN: So let’s talk a little bit about, let’s talk a little bit about the Middle East with, you know, first of all, with political risk around Israel Palestine. Is that really a factor? Does that, does that really impact oil prices the way it would have maybe 20, 30 years ago?