While sell-offs in the equity markets are dominating the headlines, a more dramatic collapse has played out in global oil markets with U.S. traded futures contracts reaching multiyear lows before a partial rebound this morning. This price action raises complex questions for institutional investors. Why is the price of oil crashing, how low can oil prices actually go and what does this mean for other asset prices? Despite feverish speculation that geopolitical levers are orchestrating the sell-off, including public accusations by Rosneft Vice President Mikhail Leontyev that Saudi Arabia is conspiring against Russia and other oil producers, some experts are not buying it. Stephen Schork, founder of energy research firm the Schork Group and a veteran analyst with stints at Glencore and Novarco, begs to differ. “The notion that the Saudis are selling to appease the White House are absurd,” he commented yesterday in an interview with Institutional Investor, “U.S. imports have declined by 5 million barrels a day in recent years, making it a less valuable partner. The real reason Saudi Arabia is selling is to protect market share.” Schork asserts a “perfect storm” is hitting petroleum, as cash-starved petrostates like Ecuador and Venezuela are forced to sell regardless of the price. Also, the U.S. dollar has reached a five-year trade-weighted high, Libyan production has rebounded and North American production is steadily growing. According to Schork’s analysis however, the widening of “crack spreads,” the price differential between crude oil and its distillates, suggests an end to the selling is near. As to the correlation between the cost of oil, the relative value of the dollar and equity multiples, Schork asserts that strong daily return correlations during periods of emotional volatility in markets are not necessarily meaningful in the long term.
Yellen giving talk today. Federal Reserve Chair Janet Yellen is speaking today at the Federal Reserve Bank of Boston Economic Conference. Given the theme of the meeting, “Inequality of Economic Opportunity,” it is likely that the employment situation will figure heavily into her comments and any remarks she makes regarding the recent return of volatility to the financial markets will garner investor scrutiny.
U.S. economic data is on deck. September housing starts and University of Michigan consumer sentiment measures will be released today. Forecasts call for a modest uptick in the pace of new home construction and a marginal slump in the mood at the cash register.
Cheap oil comes at a cost. In a statement on its website, Chinese state-controlled National Petroleum Corp., parent company to PetroChina, indicated that lower crude price levels will adversely impact profits for the second half of the year.
Earnings announcements continue. The earnings announcement calendar today is heavy with financial firms, including reports from BNY Mellon Corp. and Morgan Stanley, which recently made headlines with generous bonuses for investment bankers. This comes in the wake of yesterday’s strong showing by Goldman Sachs Group. While equity trading has been the primary source of gloom in bank earnings to date, analysts note that the surge in volume and volatility of the past three weeks is likely to lead to a rebound for stock groups during the fourth quarter.
Portfolio Perspective: Energy Prices Matter to All – But Especially to U.S. Inflation — Jorge Garayo, Société Générale
The recent performance of oil and energy prices has dragged on global headline inflation readings. After the recent acceleration in the declines in the oil complex — Brent down 25 percent in dollar terms since mid-June — our commodity strategists at Société Générale have sharply lowered their price forecasts based on weaker fundamentals, structural adjustments to U.S. supply growth and a changing Saudi/OPEC production policy. In a nutshell, they now expect Brent close to $88 during the fourth quarter, hovering at $90–92 per barrel to the end of 2015 and at $95 per barrel for 2016 and beyond. Our economists have revised down their inflation forecasts accordingly, which were previously based on a Brent level about $15 higher per barrel. The U.S. profile is most affected by the lower oil prices and our expectation that they will stay relatively low. We have pushed down our 2015 expectation for U.S. headline inflation on average by around 0.7 percent for 2015.
Jorge Garayo is the global head of inflation strategy for Société Générale in London.
