‘Holistic’ Crude Oil Sets Up Markets for Election Fallout

The team of analysts and editors here at Uncommon Wisdom Daily have already been holding internal discussions about all the ways a new President might affect your investments … and we plan on putting together a comprehensive action plan for you to follow before the final results are in.

Because if we can agree on one thing, it is this: The results of this election, no matter the victor, will result in fallout. [Cue heavy sigh.]

And as part of the research phase, I’ve begun contemplating the impact crude oil might have on the broader market.

Consider it a holistic analysis of crude oil.

Indeed, most of my time is spent forecasting crude oil in isolation. Nothing wrong with that. Because while I’m usually not one for tooting my own horn, I’ve been playing crude oil like a fiddle this year. Just since May, my Global Resource Hunter subscribers had the opportunity to bank gains like 14.5% in ExxonMobil, 18.5% in Diamondback Energy, 20.7% in the U.S. Oil Fund, 22.3% in Parsley Energy, 66% in Hi-Crush Partners, and a whopping 209.1% in SM Energy, and more!

(Toot! Toot!)

But we’ve got some interesting new developments in energy market fundamentals. And the sum total appears distinctly bearish.

OK. Right …

What you want to know, though, is how the current state of energy markets will feed into the big picture. That will help us help you prepare for election fallout.

So let’s go …

A Hurricane Drawdown That Didn’t Last

Just because it isn’t on the radar doesn’t mean it ain’t a threat, right?

Out of the top 5 drivers of equities as registered on the radar of BoAML Global Fund Manager Survey takers, the price of oil is believed to be the least influential.

Hmmmm.

When Hurricane Hermine drenched the eastern U.S. two weeks ago, crude oil production was forced to cease. Same for U.S. imports of crude oil. Naturally, inventories experienced a huge drawdown.

But that was short-lived.

Oil imports, for example, surged last week to compensate for the storm.

This adds to predictions by the IEA that supply will continue to outpace demand through at least the first half of 2017.

Now, that’s not a huge surprise, but it does seem to indicate a more-persistent imbalance. So what gives, since the price of oil has recovered to the $50 ballpark?

Demand.

Even though outstripped by supply for many quarters now, demand remained resilient.

Not so much lately.

That’s not exactly comforting news for U.S. oil producers who are trying to work through existing supplies so that the price of oil can rise and operations can become profitable (or less counterproductive) again.

They’re probably tired of sitting on their hands or twiddling their thumbs — the flatline in new oil discoveries is a result of producers not wanting to spend money on exploration.

Now that demand is part of a double-whammy hammering exploration-and-production companies (E&Ps), how much more time can they bide before additional cutting and more defaults plague the industry again?

And that’s the question that brings crude oil out into the mainstream. The health of the energy sector is a big deal for corporate earnings sentiment and U.S. economic performance.

S&P Ratings identifies weakest links among corporate debt issuers. That is, anything B- and lower is considered a weak link. The Oil & Gas business has the most weakest links … by far.

(From a systemic risk point of view, it’s interesting that financial institutions are next behind oil and gas.)

Now, the next two charts compare defaults and profit margins among U.S. companies and European companies. Clearly Europe has been, shall we say, out-underperforming the U.S.

But the U.S. is much more exposed to the oil & gas biz …

And that exposure explains the relatively higher rate of default in U.S. high-yield corporate debt.

The recent peak in margins (first chart) seems to have coincided with the peak in the oil price back in 2014.

I’d hate to see what a fresh drop in oil prices would mean for U.S. profit margins, when shares already appear overvalued relative to earnings performance on the whole. Especially when these E&Ps are about as lean as they can get, and the rising LIBOR rate is increasing the pressure on heavily-indebted U.S. companies (read: E&Ps) already.

So, will we see another drop … or not?

Maybe you know this, but I like to look at the charts for clues and timing.

That chart doesn’t scream higher prices.

At best, a rally to $60 is in the cards.

But between now and when … October? December? March of 2017?

With what I outlined above … and added pressure from OPEC’s relentless production … plus supplies coming back online in African countries that have been hit with domestic conflict recently … it’s not looking good for $60 oil anytime soon.

The best chance is a technical move to $60 that commences NOW … in spite of and because of the prevailing bearish sentiment that creates conditions for crude to surprise. Otherwise …

Can the price of oil at least hold its ground around $45 per barrel?

Because if it doesn’t, the risk of widespread panic rises when E&Ps struggle to service debt and investors accept that the U.S. corporate earnings trend will continue down.

This is the last thing a nominee for President of the United States wants to face during the homestretch of an election.

But there’s a good chance each of them will face it.

How will they alleviate investor concerns when some form of social upheaval is inevitable once one of them is elected?

Neither of them can say anything to change the course for crude oil. They merely have to react to it.

And so do we.

Do right,
JR Crooks

“JR” specializes in trading commodities, currencies and options. He has spent nearly 10 years analyzing financial markets and writing about global economics. JR honed his trading techniques and global-macro worldview alongside his father, Jack Crooks, at Black Swan Capital. JR also …