The Weekend Edition # 105

Welcome to another issue of the Weekend Edition.

Thank you to all who’ve read and welcome to all the new subscribers this week!

Here’s what we cover:

• Market Recap - Shifting rates

• Macro - Oil

• The Week Ahead - Economic & Earnings Calendars

• Closing Thoughts - Inflation Expectations

Let’s dive in ⬇️

Market Recap - 18 Sep - 22 Sep 2023 📉📈

It’s been a busy week of Central Bank announcements that definitely hasn’t done the market any favors. As the Fed’s projection showed only 50bps of cut next year, we’re seeing a shift in rates higher.

Coming to terms with a regime of higher rates has seen institutions reposition themselves taking the broad indices lower. We saw outright selling over the past week and the US markets still remain in negative gamma territory which implies any direction the market takes will intensify.

Global performance was also weighed down by the Fed’s announcement and more broadly by PMI activity numbers remaining in contractionary territory.

The Bank of England’s surprise pause didn’t bode well for market sentiment either, as inflation continues to rage on there and it signals that the authorities are more afraid of breaking something than controlling inflation at this point. We shouldn’t be too surprised if the ECB takes a similar stance.

Japan had no policy surprises but Governor Ueda stressing that a change to policy still had some ways to go, didn’t provide much comfort.

Commodities 🛢️🌾

Commodities pulled back over the week alongside the markets. But, we’re still seeing crude prices remain high. We cover crude in more detail under the macro section this week.

Some of the charts in the recap section have been sponsored by Koyfin. We have a special discount of 15% for MacroVisor readers for any new sign-ups to Koyfin. To take advantage of this promo please sign up here - Koyfin MacroVisor Discount

Macro - Oil 🌍

The rally in oil prices has been relentless. We’re seen Brent Crude march upwards crossing $95/bbl and WTI Crude crossing $91/bbl. What’s more is that we seem to be chopping in this higher range now with no real catalyst to support easing at the moment. Goldman Sachs and JP Morgan both have $100/bbl for Brent Crude on the cards as of last week, and so does Chevron’s CEO Mike Wirth.

We have the obvious announcements from Saudi Arabia and Russia extending their production cuts by a total of 1.3 million barrels per day until December. This is definitely weighing on crude oil prices as a whole but, there’s more under the hood.

Refining capacity is now being pushed to the limit. According to Morgan Stanley, “In July, refinery runs reached an estimated 83.2 mb/d, up 2.5 mb/d year on year and also close to a seasonal record.” But, global refining capacity remains constrained and stretched to seasonal highs. A hotter summer hasn’t helped either because distillates need lower ambient temperatures to cool down.

While refining capacity remains stretched, we’re also seeing a shift in supply in the type of distillates. OPEC cuts have been more specific than most know.

Light sweet crude supply hasn’t been cut as much but, the medium / heavy sour category is seeing more shortfalls. The latter is where diesel and gasoil comes from. This means we’re likely to see quite a lot of pressure on diesel and related products. Add to that, last week Russia announced a full ban on the export of Diesel and Natural Gas.

Demand and supply conditions are imbalanced and we’re likely to see deficits continue through to next year. In 2022, the US Government SPR released almost a million barrels of oil into the system to push down prices but, that’s no longer the case.

All things said and done though, OPEC is unlikely to push their cuts much further. They already have almost 5 million barrel per day in spare capacity at the moment. Pushing oil prices past $100 is likely to create adjustments to demand. This means that with higher rates and the global anticipated economic slowdown, volumes will decline even further and that eventually leads to lower revenues for the likes of Saudi Arabia even if prices remain at $100/bbl. This is obviously not what they are hoping to achieve.

We anticipate Brent Crude to land in the region of $80-$85/bbl by the end of the year - this is where Saudi Arabia’s budget is. That means WTI will eventually settle at $75-$80/bbl.

The Week Ahead 📅

US Earnings Calendar

US Economic Calendar in Eastern Time (Source: Trading Economics)

Closing Thoughts - Inflation Expectations

The price of crude oil makes its way into the inflation numbers usually with a one-month lag. We’re already seeing headline inflation starting to go up in the CPI numbers from the US and around the world. We receive PCE inflation numbers on Friday and will be keeping an eye on the changes.

The Fed didn’t have much to say about this because they see oil prices as inherently volatile and something that they can’t really control. We know this but, we also know that this will eventually be a cause for concern when the price of diesel and gasoline make their way into freight costs for companies, increasing prices of all products and services.

An increase in the price of oil and any commodity for that matter, also puts upward pressure on US Dollars. It still remains the dominant transaction currency, despite China and India’s best efforts to transact in other currencies.

Finally, an increase in inflation expectations will put upward pressure on yields. This is what kicked off the higher yields in August and we’ve yet to see any meaningful respite.

Even if crude prices pull back to $75-$80/bbl on WTI, the levels remain too high for the economy to absorb.

Here’s wishing you safe investing.

Sincerely yours,

Ayesha Tariq, CFA

There’s always a story behind the numbers.

None of the above is Investment Advice. I may or may not have positions in any of the stocks or asset classes mentioned. I have no affiliation with any of the companies other than explicitly mentioned.