20 April 2020
This week’s Briefing highlights how the current rally is based on speculation funded by the central banks, not long-term investment. As always, we welcome your comments at firstname.lastname@example.org
We focus on Brent as the global benchmark.
The market closed Friday at $28.08/bbl, down 11% on the week and down 61% so far this year.
It jumped $12/bbl between 31 March – 3 April on the rumour that OPEC+ would agree major cutbacks. But since then prices have weakened again, as details of the proposed cutbacks became clear:
- OPEC+’s 9.7mbd cuts only start in May; and experts Rystad expect compliance to be just “50% through May”
- In the meantime, the IEA now suggests Q2 will see a demand loss of 23.1mbd
- And, of course, April’s extra production from the Saudi-Russia price war is now en route to the market
- 20 tankers with 40mb of Saudi oil are expected in the US Gulf in the next month, 7x normal volume
- Reuters suggest US storage capacity for refined products is a weak link, and could force refiners to cut back operating rates
The clash between speculative fantasy and physical market reality is highlighted by the “super contango” in oil futures prices. WTI contracts for June closed Friday at an astonishing $10/bbl premium to May.
The speculators in the futures markets seem convinced that oil prices will quickly recover. But the physical market is telling a very different story.
We focus on the US S&P 500 Index as the world’s major stock market index.
The market closed Friday at 2874, up 3% on the week, due largely to a 75 point rally on Friday in response to reports that a Gilead drug might be able to treat Corona-19 victims:
- Obviously everyone is keen to find effective drugs and vaccines to counter the impact of Covid-19.
- But in reality we are still a long way from having safe and proven treatments
- And we are even further away from having them on the scale that is needed
- But, of course, reality doesn’t matter to speculators funded by $2.3tn of US Federal Reserve stimulus.
As the chart shows, they have now taken the S&P 500 back into the tramlines established with the post-2008 stimulus programmes.
The key issue is whether today’s lockdowns can come to a quick end. With the death toll still rising in most countries, this seems unlikely today. And even when they do end, cash-strapped consumers are likely to keep their purses tightly closed, except for essential items.
We focus on the US 10-year rate, as this is the “risk-free” benchmark for global markets.
The rate closed Friday at 0.65%, down by a tenth from last week. Its decline highlights the underlying weakness in the speculators’ hopes for a quick return to ‘business as usual’.
If recovery were really about to get underway, then real demand should be rising along with interest rates.
But in reality, the 10-year rate is half its level at the start of the crisis at the beginning of March.
The automotive industry is the world’s largest manufacturing industry, employing tens of millions of people in relatively high-paying jobs.
The chart shows the rapid impact of Covid-19 on sales in Q1 in the world’s Top 7 markets, which account for ~90% of global sales. Chinese sales were hit first, in February. The other 6 markets were then hit last month – when their sales also plunged.
Overall, China’s sales were down 45% in the quarter, and the other 6 markets were down 29%. Not only are people scared to visit showrooms, but their finances are suffering as job losses and furloughs rise.
There is therefore little reason to expect a V-shaped recovery in new car sales, especially as used car values continue to fall. This trend could well accelerate if rental firms need to raise cash by selling off some of their currently idle fleets.
Equally important is that global supply chains are proving fragile, meaning that car firms often lack key parts even if they are able to keep operating.
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pH Outlook team
Paul Hodges is a Global Expert with the World Economic Forum: he speaks regularly at international conferences and writes for the Financial Times.
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Daniël de Blocq van Scheltinga Is Hong Kong-based with a background in investment/ corporate banking; he was the first foreigner to run an SOE’s finance department in China.
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David Hughes is an expert on the Middle East, and worked in Saudi Arabia for 5 years.
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Paul Satchell understands financial markets, having been an equity analyst with several leading investment banks.
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