Oil Bets, Europe & a Busy Economic Week

In Charts & Data, Economics, What We're Watching by Global View Team

Oil continues to be news as traders are the longest they have been in a decade. Europe continues to struggle as Greece’s debt is unsustainable and Italy recapitalizes banks. A flurry of economic news that can impact markets is hitting as we type and will keep coming all week.

Oil, OPEC and Traders

OPEC has oil traders believing that their cuts are real and will be sustained until demand picks up this summer. Net long bets on WTI crude increased by 6.1% according to the U.S. CFTC.

OPEC cut supply by over 900,000 barrels per day in January and appears set to get that near their goal of 1.8 mbd (million barrels per day) in February. Skepticism remains from many that OPEC can keep their production down. However, given that it is a temporary agreement until June, it seems it could hold. The cuts ending coincide well with the U.S. summer driving season which is increasing demand.

U.S. shale production is increasing, however, not at a breakneck pace.  By year-end, the U.S. Energy Information Administration (EIA) estimates that U.S. shale production could be about 1 mbd higher than 2016. This however does little to offset the decline rate of offshore oil, which as we mentioned here, is about 3 mbd globally.

The EIA shows that global oil supply and demand are nearly in balance now and it does not include the OPEC cuts. This could portend a number of things, including more U.S. and OPEC production as demand rises. That could continue to be good for the oil and gas services as well as equipment companies. Those companies have been towards the top of our Market Trend Report in recent weeks.

Europe Still Struggling

Perhaps the core benefit of Brexit is that the U.K. will not have to deal directly with helping southern Europe with their debt issues. The overwhelming debts of several countries continue to threaten the EU’s very existence.

According to the IMF, Greece’s debt is “explosive” and “highly unsustainable.” Their debt is projected to rise to 275% of GDP by 2060. The International Monetary Fund (IMF) continues to push for debt modifications and forgiveness.

The IMF’s view on the financial situation in Greece is more pessimistic than the EU creditors. That difference of opinion could be the EU turning a blind eye in order to keep their union together. It would not be surprising to see a ‘grey swan’ situation develop with Greece. The possibility of Greece leaving the EU, defaulting on debts and bringing back a national currency can not be dismissed.

Italy’s government has set aside 20 billion Euro to help recapitalize banks. It is not certain if that will be enough. Nearly 20% of all Italian bank loans are classified as “troubled” according to the IMF. This is about 40% of all potentially bad debt for the nations using the Euro.

Italy is seeking ways to grow out of their financial problems. That is not unlike dozens of nations around the globe. It is also about as likely to fail as most other places as demographics – one of the mega-trends we keep pointing to – and global debt simply stand in the way of sustained higher growth rates.

With nationalist groups making headway in most nations with economic troubles, there is no telling what is coming down the road. It is simply not outside the realm of possibility that more “Brexit-like” situations occur. Should that happen, the wave of bad debt could cause massive shock waves across the global financial system and global economy.

Economic Calendar

Typically we have three topics before the economic calendar, however, this is a big week. So, let’s dig in.

On Monday the Personal Income and Outlays, Pending Home Sales and the Dallas Fed Manufacturing Survey numbers are released.

According to the Bureau of Economic Analysis: “Personal income increased $50.2 billion (0.3 percent) in December according to estimates released today by the Bureau of Economic Analysis. Disposable personal income (DPI) increased $43.6 billion (0.3 percent) and personal consumption expenditures (PCE) increased $63.1 billion (0.5 percent). Real DPI increased 0.1 percent in December and Real PCE increased 0.3 percent. The PCE price index increased 0.2 percent. Excluding food and energy, the PCE price index increased 0.1 percent.” While the numbers were slightly less strong than expected, there is no obvious indication of a slowdown to the economy.

Pending home sales remained strong demonstrating that the demand for homes still exceeds the supply. This is likely due to a combination of boomers holding their properties early in retirement, slow new construction and Millennials finally pushing into household formation. From the National Association of Realtors:

The Dallas Fed’s manufacturing survey hit its best level since April 2010. This reflects the ongoing economic expansion and likely the recent uptick in oil development across the state, particularly in the Permian Basin. The index hit 22.1 from December’s upwardly revised reading of 17.7. Economists had anticipated the gauge would slip to 15.0 from its initial December reading of 15.5.

On Tuesday we are set to see the Case-shiller home price index which will help us understand if we are seeing healthy price appreciation or creeping inflation. Consumer Confidence also comes in.

Wednesday is busy with ADP employment, Markit Manufacturing PMI, ISM Manufacturing, Motor Vehicle Sales and Construction Spending.

Thursday is Weekly Jobless Claims and Productivity. Another substantial increase in productivity would be a welcome surprise. The December number came in at whopping 3.1% after lagging much of last year. The median forecast is only .7%.

Friday’s big numbers are the nonfarm payrolls, unemployment rate, average hourly earnings, Markit non-manufacturing PMI and ISM non-manufacturing. The unemployment rate is projected to stay flat at 4.7%. In fact, most numbers are expected to remain relatively unchanged. So, a big change would be a surprise that could affect markets.

Tactical Thoughts

Despite the weak day, the economy still appears on very solid footing. The wave of data coming that we covered in the “economic calendar” above will tell us more. We’d be surprised if there was anything terribly negative. The markets likely would be too.

The Dow Jones Industrial Average broke above 20,000 last week as sentiment remains strong. While markets have slid back, as we said last week, change usually brings volatility, it is not unexpected. We will adjust as our numbers tell us to and not participate in the breathy reactionary approach the media promote.

Tactically we continue to be long in U.S. equities and are holding some extra cash due to the potential for change based volatility. It is hard to see a scenario where a pullback in U.S. stocks isn’t an opportunity to buy. Meanwhile, there are some spots around the globe that seems as if they should become attractive to invest in soon. We’ll wait for the trends to tell us when that will start to happen, however, there could be some significant gains possible under certain circumstances.

We believe if you have not adopted a tactical approach to investing, and had it described to you that way, then you need to talk to somebody who understands this approach to investing. To talk more about “What We’re Watching” and how it might impact you, contact us to set up a time to talk.