Samples


We offer the following samples of our work. You can click on the links at right to view samples from a particular category.

Posted in Newsclips, Samples

If You Can Spell ‘Bond’ You’re Probably Short Bonds

Comment

Jim Bianco was on CNBC yesterday discussing  bond sentiment. To view the interview, click on the image above. To view any of our recent interviews, click here.
  • CNBC – David Tepper: ‘You bet your heinie’ I’m short bonds
    Following a sharp run-up in bond yields since the summer, hedge fund manager David Tepper told CNBC he thinks prices still have room to drop. Asked whether he is short bonds, the Appaloosa Management founder replied: “You bet your heinie.” The benchmark U.S. 10-year Treasury note yield has risen sharply after hitting a 52-week low in July of 1.36 percent. It has since rebounded to trade above 2.55 percent amid stronger economy data and expectations of higher inflation and tighter U.S. monetary policy. Yields increase as bond prices fall. While yields have risen sharply, Tepper said Wednesday, “We’ve got a lot of room until we have to worry.”
  • The Wall Street Journal – Selloff in U.S. Government Bonds Deepens
    Over the past week or so, a series of jawboning from the Federal Reserve officials shifted the bond market’s focus toward the central bank’s tightening policy again. Investors repriced the interest rates by selling Treasurys. The 10-year yield has risen by nearly 0.2 percentage point this month after logging the first monthly decline in February since last July, when the yield closed at a record low of 1.366%. “Sentiment has been negative for the bond market” given the repricing of the Fed outlook, said Charles Comiskey, head of Treasury trading at Bank of Nova Scotia in New York. “It is just a question of when’’ for the 10-year yield to break above 2.6%, he said. Donald Ellenberger, money manager at Federated Investors, said he expects the Fed to raise rates three times this year and that the 10-year yield would rise to 3% by the end of December, a level the yield last traded in January 2014.

Comment

The blue line in the chart below shows 10-year yields. The various colored lines show quarterly forecasts for 10-year yields from the Philadelphia Federal Reserve’s “Survey of Professional Forecasters.”

All 24 forecasts start in line with current yields and head higher. In other words, since 2010 the consensus of professional forecasters has always been bearish on bonds (higher yields).

The table below shows the results from Bloomberg’s survey of interest rate forecasts six months forward. The latest survey shows economists’ 10-year forecasts for June 30, 2017. Since September 2011, economists have only predicted falling rates once – in the wake of the Trump election. Even then, the consensus only expected a fall of 4 basis points in 10-year yields. However, it should be noted that the majority of economists (59%) still expected higher yields on that date.

On average, 90% of respondents expect higher yields on any given month. In fact, it is not uncommon for 99% or 100% of economists to expect higher rates. In reality, interest rates only rose 43% of the time in the six months following each survey.

Given the structural bearishness among economists, it is difficult to lend them much credence when it comes to forecasting interest rates.

The next chart shows the results of a survey of fixed income managers conducted by JP Morgan. The percentage who are over-weighted their benchmark duration, shown in green, currently stands at just 20%. Those who are under-weighted their benchmark, shown in red, stand at 18%. As the bottom panel shows, the spread of these measures is now barely positive (2%). So while sentiment is best described as neutral, it had been leaning bearish for the last several months.

The next chart shows the assets in long-term Treasury (10+ years) ETFs. Assets in long-only ETFs are shown in green while short-only ETF assets are shown in red. After the Fed hike last year, assets in long Treasury ETFs soared. In the wake of the election this trend has reversed.

As is the case with the JP Morgan survey above, sentiment has definitely shifted more bearish, but these measures are not at extreme levels.

The next series of charts come from the Commitment of Traders (CoT) report which offers a breakdown of open interest in the futures market. The net positions of hedgers are shown in blue, the net positions of large speculators are shown in red and the net positions of small traders are shown in green. Each category’s definition is listed on the chart.

This report helps decipher who is long and who is short. Back-testing shows the large speculators are often caught at their most extreme position when markets move against them and are thus a good contrarian indicator. Hedgers are usually on the right side of the next market move. We look at these reports from the large speculators’ point of view to help determine which markets may be overbought or oversold.

The first chart shows a breakdown of the open interest of the 10-year note futures contract. Since the election, large speculators have aggressively shorted this market. The chart shows this group is still at its most extreme net short position in the 24 years of history available. Contrarians would argue this is very bullish.

The next chart shows the opposite end of the maturity spectrum, the 90-day Eurodollar futures contract. Since last summer, large speculators have aggressively shorted this market as well. In fact, speculators are net sellers of this contract to a degree never seen in the past 24 years.

The charts above show speculators’ nominal net positions (longs less shorts). The chart below aggregates the net positions of large speculators in the 2-year, 5-year, 10-year and 30-year futures contracts. We normalize these measures two ways:

  • Large speculators’ net positions are measured as a percentage of overall open interest. This helps compare current net positions to those of a couple decades ago when markets were much smaller.
  • The measures are then converted to Z-scores. This is simply the number of standard deviations the current net position is from a 5-year moving average.

By normalizing the data in this way, we are then able to compare contracts of different tenors and leverage ratios and aggregate them to get a better sense of speculators’ net position on “interest rates.”

The chart below shows large speculators’ net position across these tenors has retreated a bit from the largest net short in the history of the data set. It is, however, still one of the larger net short positions on record. Again, this group should be seen as a contrarian indicator, so their expectation of higher rates should be looked at with some skepticism.

Conclusion

  • Professional forecasters and economists are very bearish, but they always are.
  • Fixed income managers, as surveyed by JP Morgan, are now neutral, but have leaned bearish the last few months.
  • Asset levels in long and short Treasury ETFs are neutral but rapidly moving toward a bearish stance.
  • Large speculators in 10-year futures currently hold a near-record bearish net position.
  • Large speculators in Eurodollar futures currently hold a record bearish net position.
  • A normalized measure of large speculators’ aggregate net position in 2-year, 5-year, 10-year and 30-year futures contracts are also near a record bearish level.

Regardless of which group is being examined or how the data is broken down, there seems to be a nearly universal bearish opinion in the bond market. All these measures are considered contrarian in nature, so the data above suggests the bond market should rally and rates will turn lower.

Posted in Newsclips, Samples

Investors in Energy Stocks Bearish on WTI Crude Oil

  • The Financial Times – WTI oil prices fall below $50 for first time since December
    Oil is slipping after data from the US revealed the country’s oil stockpiles hit an all-time record in February – rising for the ninth consecutive month and sparking fresh concerns about the extent of a global supply glut.The news sent prices slumping as much as 6 per cent on Wednesday with the sell-off extending into this morning.
  • Bloomberg – Commodities Battered by Signs There’s Still Too Much Supply
    Raw materials head for biggest weekly drop since November
    Once again, the biggest problem in commodity markets is too much supply.After a big rally in the past year, prices are starting to falter. Copper, often referred to as having an economics Ph.D for its ability to track the economy’s health, slid as stockpiles tracked by the world’s biggest metals exchange jumped by two-thirds. Record U.S. crude inventories have pushed down oil prices, while gold’s taking a hit as the Federal Reserve looks certain to raise borrowing costs next week.

Comment

The chart below shows WTI crude oil in the top panel and 90-day rolling returns for five of energy’s main sub-industries found in the S&P 1500. They range from oil exploration to refining.
These sub-industries of energy peaked mid-January while WTI crude oil stalled in one of its tightest trading ranges in history.
If these sub-industries are a discounting mechanism for oil prices, then we can estimate where investors are expecting oil prices to reside in the not too distant future. The chart below shows WTI crude oil prices in gray and investors’ expectations over the next year in orange. We generate investors’ expectations using rolling returns for the five sub-industries of energy shown above. For comparison, we included economists’ forecasts with survey averages in blue, highs in green, and lows in red.
Investors likely shed expectations for rising oil prices in August 2016. Currently, our estimate of investor expectations’ for oil prices resides at $47.9, just off the lowest economist forecast at $45.5. Investors in these sub-industries are not agreeing with the average economist’s forecast for the year ahead at $57.0.
The chart below shows oil prices in the top panel and variance explained by the first principal component over 50-day windows of sub-industry returns in the bottom panel. Think of this ‘variance explained’ metric as an indication of correlation. Abrupt divergences in returns among energy’s sub-industries have historically been a telltale sign of bearish turns for oil prices.
Variance explained dropped well under 50% in mid-February 2017. We are watching closely to see if continued divergences among sub-industries suggests further concern for oil prices.
Lastly, fast money in WTI crude oil futures as measured by ‘managed money’ in the Commitment of Traders report is back to its heaviest net long position since oil prices peaked in June 2014. What are they seeing that others are not? Such lop-sided positioning makes oil rallies difficult.
Posted in Newsclips, Samples

The OPEC Agreement May Be Tested

  • Bloomberg.com – Shale Billionaire Hamm Says Industry Binge Can ‘Kill’ Oil Market
    Harold Hamm, the billionaire shale oilman, said the U.S. industry could “kill” the oil market if it embarks into another spending binge, a rare warning in a business focused on fast growth to compete with OPEC. The statement, at an energy conference in Houston on Wednesday, comes as top shale companies announce large increases in spending for this year, and the U.S. government says domestic oil output next year will surpass the record high set in 1970. OPEC ministers have said they are keeping a close watch on shale production to decide in late May whether to extend their oil-supply cuts into the second half of the year…Shale producers are staging the biggest surge in drilling since 2012, with the number of oil rigs rising to more than 600 this month, nearly double the level of June. They are rushing to spend again after the Organization of Petroleum Exporting Countries and Russia agreed last year to cut its supplies, boosting oil above $50 a barrel after a two-year price rout…Saudi Arabia Energy Minister Khalid Al-Falih earlier this week warned CERAWeek attendees that what he called the green shoots emerging in the U.S. oil industry were perhaps growing “too fast.” ConocoPhillips CEO Ryan Lance quipped afterward that the green shoots looked more like “trees” to him. Al-Falih, in a clear message to the U.S. industry, said it would be “wishful thinking” to expect that Saudi Arabia and OPEC “will underwrite the investments of others at our own expense” through production cuts.

Posted in Newsclips, Samples

Can The Fed Ignore Soft Data?

  • Bloomberg View – Tim Duy: Fed Must Look at Soft Data to Justify a Rate Hike
    Note that the divergence between markets and the Fed appears to have been more a matter of increasing confidence in the outlook than one of dramatic change in the outlook itself. The hard data was not sending a strong signal that the Fed should revise upward its forecast (although the February employment report may give such a signal). With the central bank’s basic forecast intact, it seemed reasonable that it could still afford patience.  In recent weeks, however, we have seen an increasing gap between “hard” and “soft” survey data.   For the Fed, however, the combination of the soft data, improving external conditions, the possibility of fiscal stimulus and buoyant financial markets is sufficient to pull forward the next rate hike in the absence of a marked change in the forecast. Everyone on the Open Market Committee can see a greater upside risk for their forecasts. And with the economy hovering near what officials believe to be full employment, a shift in even just the balance of risks is sufficient to pull forward the next rate hike. They fear that further delay will set the stage for a rapid increase in hikes later that ultimately ends in recession. What does a rate hike in March mean for the rest of the year? If the economic forecasts of FOMC participants remain little changed, then arguably we should expect that the median rate projection of three 25 basis-point rate hikes for 2017 also remains unchanged.

Comment

As we concluded in a post on Tuesday:

Soft economic data is increasingly out-pacing hard in the U.S. since Trump’s win spurred a substantial burst in business confidence. Soft economic data has historically been a leader, however failure by economic growth to play catch-up would not bode well for risk assets.

Posted in Newsclips, Samples

Chinese Business Leaders Weigh In On Capital Controls

  • The Financial Times – Capital controls the talk of China parliamentarians
    “The biggest bottleneck enterprises encounter is the strict controls on foreign exchange,” Fu Jun, chairman of conglomerate Macrolink, told state media. “After a difficult negotiation to win a high-quality investment project, enterprises are unable to pay due to foreign exchange control payments and ultimately lose out on opportunities for international mergers and acquisitions.” Zhang Yichen, head of one of China’s largest investment groups, was quoted by Bloomberg as saying that “it’s a lie” to claim, as many government officials had done, that capital controls had not had any impact on legitimate overseas investments. “It’s not too surprising that the premier’s report to the National People’s Congress would skip this topic,” says Chen Zhiwu, director of the Asia Global Institute at the University of Hong Kong, “given that the overall theme of national policy in China is to remain open to the outside world. There would be a lot of self-contradiction.”

Posted in Newsclips, Samples

The Cost Of Active Management

  • Of Dollars And Data (Blog) – The Fees Are Too Damn High: How Active Funds Have Cost Investors Over $250 Billion
    You read that right: The fees are too damn high and they have cost investors over $250 billion since the year 2000. I am talking about fees charged by actively managed mutual funds in comparison to their passive fund counterparts…The idea to test this is simple: Look at the amount of additional fees that active funds charge as compared to index funds/ETFs and multiply this by the amount of money that could have been in index funds/ETFs over this time period. From the year 2000 to 2015 you can see that active equity funds have charged between 70-80 basis points more than equity index funds/ETFs…the total overcharge by active funds (70-80 basis points * amount of capital in active funds that could be in passive funds) from 2000-2015 is roughly $280 billion.

Comment

While this figure is eye-opening, it does not even take into account the difference in actual returns between active managers and passive funds. The chart below shows stocks outperformed the closest active management group by over 156% since March 31, 2003 (as far back as this data goes).

Posted in Newsclips, Samples

8 Years Ago Today The Financial Crisis Stock Bear Market Bottomed

  • MarketWatch.com – Bull market’s 8-year anniversary reminds us that the Dow rewards the bold 
    Apple has gained nearly 1,000% since 2009
    If investors took a leap of faith when the bottom fell out of the market eight years ago and invested heavily in Dow stocks, most would be sitting on a fairly sizeable nest egg today. The Dow Jones Industrial Average DJIA, -0.21%  is a benchmark of 30 large U.S. companies and generally serves as a barometer of broader market conditions; among investors here and abroad, the blue-chip average is synonymous with the U.S. stock market, period. Since the dark days of March 2009 when the Dow was barely holding onto 6,500 points, the index has soared roughly 200%, mostly on the back of loose monetary policy from the Federal Reserve and other foreign central banks in the wake of the 2008-2009 financial crisis. During the same period, gold only rose 30.8%, while crude oil gained 17.5%.

  • Bloomberg Business – A Freakish Calm Surrounds the Eight-Year Bull Market
    If the bull market is worried about dying, it’s not letting on. Eight years along and no existential crisis plagues this advance, whose unbroken march from the depths of the Great Recession is the second longest ever. Valuations are stretched and going by its age the rally is in rarefied air. But volatility, the ticker tape of investor anxiety, is nowhere to be found.  .. “Investors should now be on the lookout for a fear-of-missing-out mindset that could signal overconfidence and sound the final lap,” said Sam Stovall, chief investment strategist at CFRA in New York. “Volatility will remain a potential challenge to the intestinal fortitude of many investors and cause their emotions to become their portfolio’s worst enemy.” At 250 percent, the advance in the S&P 500 Index since 2009 has surpassed any bull market at the eight-year mark, plus all those that ended earlier, according to data compiled by CFRA that goes back to World War II. While history shows stocks tend to get more volatile as rallies drag on, it’s not the case now. In the past 12 months, the S&P 500 has spent only 23 days rising or falling 1 percent, compared with 85 days during the eighth year of the 1990-2000 run.
  • Bloomberg View – Barry Ritholtz: Obama’s “Radicalism” Didn’t Quite Kill the Dow . . .
    We celebrate several market-related anniversaries this week. Perhaps the best known is the market low during the financial crisis, which occurred eight years ago tomorrow. Remember the despair on that day, March 9, 2009, when the Standard & Poor’s 500 Index hit 667 (it’s at about 2,368 now)? Think hard, too, about whether you scoffed when newly elected President Barack Obama just a few days earlier urged investors to buy stocks.  Or has your hindsight bias already replaced that week with the memory of a more comforting and self-congratulatory narrative? Maybe you were one of those who nodded in agreement with a Wall Street Journal op-ed by Republican economist Michael Boskin, which also is celebrating an eight-year anniversary this week. The headline, which couldn’t have been more off-base, said it all: “Obama’s Radicalism Is Killing the Dow.” In the meantime, the S&P 500 increased 232 percent from the time Boskin’s op-ed appeared to the day Obama left office.
Posted in Newsclips, Samples

The Rise Of Quants

  • The Financial Times – Goldman Sachs’ lessons from the ‘quant quake’
    Nearly 10 years after its nadir, quantitative investing is again the hot trend in finance
    What became known as the “quant quake” subsided in a week and was largely contained within the computer-powered investment industry. It was soon overshadowed by the global financial crisis. But it scarred a generation of financial scientists on Wall Street. Even Renaissance Technologies, the legendary hedge fund co-founded by cold war codebreaker James Simons, suffered painful losses, and it nearly obliterated Goldman’s QIS. Nearly a decade later, quantitative investing is once again the hottest trend in finance. Computer-driven hedge funds have just notched up their eighth straight year of client inflows, doubling their assets from 2009 to $918bn, according to Hedge Fund Research. Even this understates the interest, as many traditional hedge funds and big mutual fund managers are all trying to blend more quantitative techniques with their traditional approaches. QIS is emblematic of the quant renaissance. In 2011 Goldman Sachs put its top computer wizard, Armen Avanessians, in charge of the division. He has helped turn round its fortunes. The arm’s assets under management reached a nadir of $38bn in 2012, but it now manages $91.8bn — still below the unit’s pre-crisis peak. “The first thing I did was to fly to our biggest clients and apologise,” he says. “All bad things involve crowding and leverage, and the quant crisis was no different. But the core idea that computers can do a lot of this better than humans was right?.?.?.?I feel that we’re just at the early stages of this quant revolution, and that gets me excited.”

Posted in Newsclips, Samples

Insiders Are Selling

  • The Wall Street Journal – Corporate Insiders Haven’t Been This Uninterested in Buying Stocks Since Ronald Reagan Was President
    Corporate executives are buying their own firms’ shares at the slowest pace in at least 29 years, the latest sign of uncertainty as the booming U.S. stock bull market this week enters its ninth year. Share purchases and sales by executives are parsed by investors searching for signals about what insiders expect from the market. Sales can show wariness about valuations, while purchases can signal confidence that more gains lie ahead. Insider buyers have been scant. There were a total of 279 insider buyers in January, the lowest in records of publicly traded companies that are required to disclose going back to 1988, according to the Washington Service, a provider of insider-trading data and analytics. Meanwhile, the number of sellers has been above average, pushing a ratio of buyers to sellers in February to its lowest since 1988.
Posted in Newsclips, Samples

But, Economic Growth is Lagging Inflation

  • The Financial Times – OECD warns of need to escape global ‘low-growth trap’
    Static forecasts signal disconnect between business upswing and real economy outlook
    A strong upswing in business and consumer confidence and buoyant financial markets are not enough to pull the world out of a “low-growth trap”, the OECD said on Tuesday as it released its latest forecasts.The Paris-based club of mostly rich nations noted that it had not revised up its growth forecasts from those in November so there was now a troubling disconnect between buoyant financial market valuations and real economy prospects.

Comment

The chart below shows global economic (blue) and inflation (orange) growth indices in the top panel. These are constructed using growth rates relative to one-year averages across major data releases. Their spread is shown in the bottom panel.
Economic growth is improving relative to one-year averages, albeit at a tepid pace. As we have discussed, concerns are growing inflation is exceeding economic growth at an increasing pace. Similar conditions have NOT been a recipe for success for equity markets.
The chart below shows soft U.S. economic data (e.g. business and consumer confidence) in orange and hard U.S. economic data (e.g. payrolls and industrial production) in blue. Their spread is in the bottom panel.
Soft economic data is increasingly out-pacing hard in the U.S. since Trump’s win spurred a substantial burst in business confidence. Soft economic data has historically been a leader, however failure by economic growth to play catch-up would not bode well for risk assets.
Posted in Newsclips, Samples

The French Elections

  • CBS News – 60 Minutes: France’s Marine Le Pen says she’s not waging a religious war
    “Everyone has the right to practice their religion, to worship as they choose,” the French presidential candidate says. “My war is against Islamic fundamentalism.”
    We begin tonight with a story about a populist politician who rails against free trade, wants to get tougher on immigration, is skeptical of NATO and sympathetic to Russia. We’re talking about a woman named Marine Le Pen, the candidate in France’s upcoming presidential election who’s shocked the political establishment with her meteoric rise, shocked because the name Le Pen has long been associated with anti-Semitism and racism in Europe.  Her party, the National Front, used to be on the fringes of French politics, but in recent years Marine Le Pen has given it a makeover and she’s now riding a wave of populist anger sweeping the West with Britain’s vote to leave the European Union and the election of President Trump. And just like Mr. Trump’s rise, the rise of Marine Le Pen is turning conventional political wisdom on its head.

Comment

In this extra video, French political journalist Thierry Arnaud argues that a Le Pen victory means the end of the Euro/EU.

The chart below shows the latest betting on the French election. Recall that we view the betting markets as a type of real-time poll. They tell us what the consensus thinks, not what will happen.

The chart shows a lot of volatility with the “left-wing populist” Macron recently surging. The election is April 23. If no candidate gets more than 50% of the vote, the top two will face off on May 7.

Posted in Newsclips, Samples

U.S. Interest Rates – Uncertainty and Ultra-tight Trading Ranges

  • The Wall Street Journal – Short-Dated U.S. Bond Yields Hit Post-Crisis High on Fed Anxiety
    Fed Chairwoman Yellen is scheduled to speak Friday
    The bond market is finally getting real to the possibility of a Federal Reserve interest rate increase in two weeks.Investors this week have been selling Treasurys that tend to lose value when the central bank tightens monetary policy. On Thursday, the selling pressure sent some short-term bond yields that are highly sensitive to the Fed’s outlook to post-crisis highs.
  • The Wall Street Journal – Futures Traders Not Looking Far Ahead of Fed’s Possible March Rate Rise
    A surge in bets on an increase soon hasn’t come with a discernible shift in expectations of further moves
    Investors may be increasingly sure the Federal Reserve will raise interest rates this month, but they haven’t yet reconsidered what happens next.That, at least, is the message coming through from the futures market. There, the sudden surge this week in bets that the Fed will lift rates by a quarter percentage point on March 15 hasn’t come with any notable shift in expectations for how many further increases there will be in the next couple of years.

Comment

The chart below shows the U.S. 30-year bond’s trading range (max – min yield) over rolling 75-trading day periods.
After reading the first story above, would you believe the U.S. 30-year bond’s yield has been stuck in its second tightest trading range since 1980?! The bond’s tightest 75-trading day range occurred just recently, in June 2016 (23.9 bps).
More distant expectations beyond 2017 for the fed funds rate and U.S. Treasury yields have yet to move appreciably higher. The U.S. 5-year less 30-year spread (last: 103.9 bps) is threatening its flattest levels since before the financial crisis.
The chart below shows changes in U.S. 30-year bond yields days after bullish (top panel) and bearish (bottom panel) breakouts from similar trading ranges.
Direction may be difficult to predict, however amplified volatility looks very likely.
We believe the persistent discussion of ‘uncertainty’ in Fed speak is helping weigh down the path of long-term interest rates and flattening the yield curve.
The chart below shows the use of ‘weakness’ related words versus ‘inflation and growth’ related words in all Fed speeches since 1996. Each circle represents the sum of words for each quarter. Brainard’s hawkish speech is included.
The FOMC is beginning to show conviction with a higher use of inflation and growth relative to weakness.
The next chart shows the use of ‘uncertainty’ related words in all Fed speeches since 1996. We use z-scores (standard deviations from average) for a rolling 20-day sum of speeches.
The FOMC is exuding uncertainty at a high rate relative to inflation and growth. Long-term interest rates will likely remain lower relative to their short-term counterparts until the FOMC removes this hedge of ‘uncertainty.’
Will Fischer and Yellen finally start a trend of greater certainty? Or will confusion over long-term expectations continue?
Posted in Newsclips, Samples

U.S. Tight Oil Production Gaining Influence in Global Market

  • Financial Times – Surging exports propel US to bigger impact on global oil market
    Outbound shipments of more than 1.2m barrels a day present challenge to Opec nations
    Outbound shipments of crude have surpassed 1.2m barrels a day, more than last month’s daily production of Algeria, Ecuador or Qatar — each a member of Opec.  The foreign sales underscore how the US has become more integrated into the world oil market since Washington lifted 40-year-old constraints on crude exports at the end of 2015. The US continues to import much more than it exports but its oil companies now have the freedom to market barrels abroad when it makes economic sense. The situation presents a further challenge to Saudi Arabia and other Opec members, which historically held the power to turn supplies on and off when needed.
  • Bloomberg – U.S. Shale Surge Threatens OPEC Strategy
    OPEC’s output agreement may have put a floor under prices, but it has also prompted the return of U.S. shale.OPEC’s Nov. 30 output agreement to cut production by 1.2 million barrels a day may have put a floor under the oil price, but has also awakened U.S. shale. Exploration and production companies have added 77 rigs this year to Feb. 24, according to the latest figures from Baker Hughes, while U.S shale production is forecast to reach about 4.87 million barrels a day in March, according to the Energy Information Administration’s latest Drilling Productivity Report. That’s the highest since May 2016.
  • Bloomberg Brief – Investors Betting Oil Will Break Out of Narrow Range (PDF)
    Oil has traded above $50 a barrel since OPEC and 11 other countries started trimming supply on Jan. 1, which has in turn helped fuel a revival in U.S. shale drilling. American explorers have almost doubled the number of rigs targeting oil since May, according to Baker Hughes. The mixed signals have locked WTI in its narrowest range since 2003 this month.
  • Bloomberg – Bizarre oil trades pose menace for OPEC in its prized market
    “Asian refiners have the choice to buy crudes from North America, the North Sea, the Caspian as well as North and West Africa,” said Ehsan Ul-Haq, an analyst at KBC Advanced Technologies. “Refiners will certainly look at arbitrage economics but with all key benchmarks showing a narrow spread with each other, there are numerous possibilities to meet their requirements.”

Comment

U.S. tight oil producing regions have seen a surge in drilling activity and production even as crude oil prices stagnated in 2017. Spot WTI has traded in a sub-$5 range over the past three months, unable to break above $55.

Despite the failure to break above $55, oil production has begun climbing again as prices settled into this narrow range. The chart below shows total U.S. oil production is once again approaching 5 million barrels per day.



Rig counts rose quickly into year-end 2016 and are continuing to accelerate in 2017. The next chart shows rig count by region and highlights the rapid growth in the Permian Basin of west Texas. The sharp rise in drilling activity is remarkable given the modest price gains that crude oil has seen in the past 3 months.

As the next chart shows, improving efficiency is helping tight oil producers in the U.S. squeeze more oil and gas out of each well. New technologies allow faster completion time for wells, and allow drilling rigs to complete clusters of wells in close proximity to each other with minimal setup costs. With production per rig accelerating higher, costs per barrel produced are falling. These falling breakeven rates are helping U.S. tight oil producers fill the gaps in global supply creating by the pullback in OPEC production.

There is another critical component in the U.S. tight oil supply picture. A growing inventory of drilled but uncompleted (DUC) wells allow tight oil producers to respond very quickly when spot prices rise above their breakeven rates. DUC wells are ready to begin producing oil and only await fracturing. The Energy Information Agency produces estimates of the inventory of these drilled but uncompleted wells for each region. These are estimates and a full explanation of the methodology can be found here (PDF).

The chart shows the estimated inventory of DUC wells for each region, and once again highlights the growing supply in the Permian Basin. Total DUC inventory is nearing the all time highs from 2016 with over 5000 wells completed and awaiting fracturing to begin production.

Conclusion

  • Drilling activity and production are surging higher in key tight and shale oil regions in the U.S. Advanced techniques and improved efficiency are helping tight oil producers reduce costs and bring dormant production online once spot prices rise above breakeven rates. Falling costs allow U.S. tight oil production to expand further into the global supply chain as OPEC producers pull back and oil comes out of long term storage.
  • A large and growing inventory of drilled but uncompleted (DUC) wells stand ready to begin producing oil if prices rise. This weakens OPEC’s position as U.S. tight oil producers are increasingly able to step into global markets at lower prices.
  • While this shadow inventory of potential oil production isn’t sufficient to drive prices lower, it may be sufficient to keep oil prices from rising further as OPEC producers struggle to enforce production limits and maintain their market share.
Posted in Newsclips, Samples

About Earnings

  • The Wall Street Journal – Surprise: Earnings Actually Drive Stocks
    One of the reasons behind the market’s big rally is a surprisingly good earnings season
    U.S. stocks have been on an absolute tear. Among the reasons: a surprisingly good earnings season.  Lost in the speculation about the Trump administration’s expected business-friendly policies were better-than-expected corporate earnings. With most S&P 500 companies having posted results for the final three months of 2016, it is confirmed that the biggest U.S. companies have started a new growth streak. More good news is expected in coming quarters, too.  Fourth-quarter earnings are expected to log an increase of 4.6% from the same period a year ago, according to FactSet. That would mark the second consecutive quarter of year-over-year growth. And it would put the prior earnings recession of five consecutive quarterly contractions further in the rearview mirror. The last time the market had back-to-back quarters of earnings growth was in the fourth quarter of 2014 and the first quarter of 2015.

Comment

The story above argues that the stock market is being powered higher by optimistic earnings forecasts.

The chart below shows the forecasts for S&P 500 operating earnings based on a Bloomberg survey of Wall Street analysts. It is a “blended chart.” The various yearly lines start as forecasts of earnings for the 500 companies. As companies start reporting fiscal year numbers, the forecasts are replaced with actual results.

Note that all these estimates start around 12% growth. Then, as the reporting season approaches, the forecasts are cut and the final results come in far lower. So while the 2017 (brown) and 2018 (pink) forecasts are calling for 12% year-over-year growth, the results will probably be far lower than this.

Is the pattern above unusual? The next two charts, from Yardeni Research, show that the pattern mentioned above has been the norm since 1979. Initial forecasts only proved to be too low in the years during or shortly after recessions when analysts were overly pessimistic about the long-term future. Since this would not apply to 2017 forecasts, we would be surprised if earnings actually remained as high as the initial forecasts.

Posted in Newsclips, Samples

Is The Fed Tweaking Its Dot Chart?

  • The New York Times – Binyamin Appelbaum: Some Fed Members Back Quicker Move on Rates
    The Fed also announced a few housekeeping changes, primarily of interest to close watchers of the central bank. Fed officials are now prohibited from speaking about monetary policy for 10 days before a policy-making meeting, rather than one week. The Fed also said it would expand the information provided with its quarterly economic forecasts to include an illustration of the uncertainty surrounding the projections.

Comment

The highlighted comment above was in reference to a passage on page 8 of the minutes released yesterday:

The Committee considered amendments to its Policy on External Communications of Committee Participants and its Policy on External Communications of Federal Reserve System Staff. The amendments consisted of (1) starting the communication blackout earlier (the second Saturday before Committee meetings); (2) revising the treatment of staff presentations during the blackout period; (3) revising provisions regarding regularly published System releases of data, survey results, statistical indexes, and model results during the blackout period; (4) explicitly recognizing the need for ongoing communications with the public by staff members during the blackout period for operational or information gathering purposes; and (5) making several miscellaneous changes, generally to improve clarity. All participants supported the revisions, and the Committee voted unanimously to approve the revised policies.

What does all this mean? As Binyamin Appelbaum explained in a tweet:

This begs two questions:

  1. Why does the Fed want to start its blackout period on the second Saturday before the FOMC meeting? That makes the blackout period roughly 10 days long instead of the current policy of 7 days. Why is the extra three days significant?
  2. What is a fan chart?

In Yellen’s Jackson Hole speech last August, she presented a version of a fan chart using the June 2016 projections:

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The chart below shows how the Fed currently presents the same data. Is the fan chart above really an improvement over the dots below?

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If this is an accurate representation of how the Fed is going to change its Summary of Economic Projections (SEP) next month, it is another example how the Fed tries to be transparent and just winds up confusing everyone even more.

Posted in Newsclips, Samples

The Shifting Geography of U.S. Oil and Gas Production

  • The Washington Post – The United States of oil and gas
    Since 2010, the United States has been in an oil-and-gas boom. In 2015, domestic production was at near-record levels, and we now produce more petroleum products than any other country in the world. President Trump said he plans to double down on the oil and gas industry, lifting regulations and drilling on federal land. Here is the state of the petroleum extraction industry that the new administration will inherit.There are more than 900,000 active oil and gas wells in the United States, and more than 130,000 have been drilled since 2010, according to Drillinginfo, a company that provides data and analysis to the drilling industry.We’re familiar with oil-rich regions of Texas, but technological advances and new pipeline infrastructure have brought the ability to extract these resources to new parts of the country, injecting billions of dollars into local economies and spurring a modern-day gold rush.

Comment

Higher oil prices have rekindled drilling operations in the U.S. The chart below shows the number of operating rigs since 2007. After bottoming in May 2016 at 262, the total U.S. rig count has rebounded to nearly 500 as of January. But this recovery has been unevenly distributed across the country.

The next chart shows the total rig count by region, as categorized by the IEA. Key tight oil fields in the Bakken and Eagle Ford regions were hit particularly hard by the fall in prices. The Bakken field faces additional logistical costs and challenges with transporting oil from North Dakota. But both fields have yet to see the same dramatic rebound in activity as the Permian region in western Texas.

The other major trend that has accelerated with the fall in prices is the drive toward higher efficiency. The next chart shows oil production per rig by region since 2007. Huge gains in efficiency have mitigated declines in production in these key fields even as rig counts fell. Once again though, the gains in efficiency are unevenly distributed. Eagle Ford and Niobrara regions have seen the largest gains, with Bakken and Permian regions also see substantial improvement. The others were unable to achieve the same gains in oil product.

These other regions have seen major gains in natural gas production efficiency however. The next chart shows natural gas production per rig by region. The three regions that saw the least improvement in oil production efficiency have seen the greatest gains in natural gas production.

The net result is that total natural gas production in the U.S. is achieving new highs and total oil production is now only 11% off its March 2015 peak. See the chart below.

See the Washington Post story for a whole series of detailed maps and visualizations of oil and gas facilities in these key regions and the Gulf of Mexico.

Posted in Newsclips, Samples

Cartoons

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Posted in Newsclips, Samples

More On The Forward Curve And The Fed

  • Harvard Business School – Jeremy C. Stein and Adi Sunderam: Gradualism in Monetary Policy: A Time-Consistency Problem?
    We develop a model of monetary policy with two key features: (i) the central bank has private information about its long-run target for the policy rate; and (ii) the central bank is averse to bond-market volatility. In this setting, discretionary monetary policy is gradualist, or inertial, in the sense that the central bank only adjusts the policy rate slowly in response to changes in its privately-observed target. Such gradualism reflects an attempt to not spook the bond market. However, this effort ends up being thwarted in equilibrium, as long-term rates rationally react more to a given move in short rates when the central bank moves more gradually. The same desire to mitigate bond-market volatility can lead the central bank to lower short rates sharply when publicly-observed term premiums rise. In both cases, there is a time-consistency problem, and society would be better off appointing a central banker who cares less about the bond market. We also discuss the implications of our model for forward guidance once the economy is away from the zero lower bound.

Comment

Stein and Sunderam’s conclusions are similar to comments we made earlier this month on why even one rate hike matters.

As the chart below shows, the fed fund futures forward curve (blue line) is at a new 12-month low (the purple line shows the previous 12-month low) and is well below the Fed’s expectations.  If the Fed would have hiked last week, the markets would be forced to take Yellen’s words much more seriously. As a result, the forward curve would have likely moved much closer to the Fed’s latest projections. In other words the line would have to go through the black dots. Such an adjustment, moving higher by 100 bps, would have been a big change for the bond market.

This chart shows the market and the Fed are almost in different worlds when it comes to fed funds expectations. According to Stein and Sunderam, no amount of forward guidance or promises of “one hike and pause” can reconcile this. Only an actual hike will force the fed funds market to become more closely aligned with Fed projections.

DashbCurve092315.jpg

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  • The Washington Post – Robert J. Samuelson: The weakened Fed
    These are worrying days for the Federal Reserve, America’s central bank. Surrounded by critics on the left and right, it can hardly do anything without being second-guessed or denounced. Last week, the Fed decided not to raise its target “fed funds” rate, a move that was praised by some economists but was greeted by steep drops in stock prices. This captures the Fed’s precarious position: supported by some, scorned by others. Over the past decade, there has been a profound shift in its public standing. Before the 2008-09 financial crisis, the Fed enjoyed enormous prestige and freedom of action. All the Fed had to do, it seemed, was tweak short-term interest rates to keep expansions long and recessions short. What’s clear now is that we vastly exaggerated the Fed’s powers of economic management. Since 2008, the Fed has not only kept short-term interest rates near zero but has also poured nearly $4 trillion into the economy by buying U.S. Treasury securities and mortgage bonds (so-called “quantitative easing,” or QE). These policies almost certainly helped the economy, but the extent of the help is unclear and subject to legitimate disagreement. Regardless, the recovery has been frustratingly slow. The Fed’s reputation has suffered. Increasingly forgotten is its success during 2008 and 2009 in preventing another Great Depression by acting as “lender of last resort” for the financial system. Instead, Fed policies are misleadingly identified as part of the problem and in need of overhaul. The Fed is increasingly friendless. The sluggish recovery has turned it into a scapegoat. What we should have learned is that its powers, though considerable, are limited. Years of ultra-easy credit have not triggered the faster growth that most Americans desire. Even with the economy near “full employment” (August’s unemployment rate: 5.1 percent), living standards are barely budging.
Posted in Newsclips, Samples

Who Wanted To Hold Rates At Zero, Yellen Or The Majority?

  • The Wall Street Journal – Fed’s Williams Sees 2015 Interest Rate Rise as ‘Appropriate’
    John Williams, president of the Federal Reserve Bank of San Francisco, said in a speech Saturday he believes it is still appropriate to raise short-term interest rates before year-end, reiterating a timeline that remains the preference of a majority of Fed officials. In a speech in Armonk, N.Y., at a symposium on China and the financial system, Mr. Williams said there are “arguments on the side of the ledger arguing for more patience.” But he said, “Given the progress we’ve made and continue to make on our goals, I view the next appropriate step as gradually raising interest rates, most likely starting sometime later this year.” His comments are significant because they typically reflect the center of Fed officials’ thinking on interest-rate policy. They come only two days after the Fed decided not to raise rates at its September policy meeting this week.
  • The Wall Street Journal – St. Louis Fed’s Bullard Argued Against FOMC Decision at Fed Meeting
    Federal Reserve Bank of St. Louis President James Bullard said Saturday he argued against holding rates steady during the Fed’s policy meeting last week because he believes the economy has recovered enough to begin raising rates. “I would have dissented,” he said. “The case for policy normalization is quite strong since the committee’s objectives have essentially been met.” “Why do the committee’s policy settings remain so far from the normal when the objectives have essentially been met?” Mr. Bullard said. “The committee has not, in my view, provided a satisfactory answer to this question.” Mr. Bullard’s was a minority view at the meeting. Fed officials last week decided to hold off on raising rates, citing risks from economic instability overseas, particularly in China. Officials said they wanted to wait until they had more information about the economic and financial fallout of the global slowdown. Mr. Bullard described the meeting as “pressure packed,” and said the decision to hold rates steady was “a close call.”

Comment

Every quarter the Fed publishes its Summary of Economic Projections. The part that gets the most attention is the so-called dot plot. The chart below shows the year-end 2015 projections from the last four SEP updates. The green rectangle on each update highlights the number of Fed officials expecting at least two hikes this year (0.625% or higher).

  • In the December 17, 2014 update, 15 of the 17 (88%) officials were expecting at least 2 hikes in 2015
  • In the March 18, 2015 update, 14 of the 17 (82%) officials were expecting at least 2 hikes in 2015
  • In the June 17, 2015 update, 10 of the 17 (59%) officials were expecting at least 2 hikes in 2015
  • In the September 17, 2015 update, 6 of the 17 (35%) officials were expecting at least 2 hikes in 2015

FOMC members that fill out these expectations are instructed to tell us what they think the appropriate policy should be at year-end, not what they think it will be. They are also discouraged from gaming the dots by intentionally raising or lowering their projections to offset another member.

In reality, some officials are guilty of gaming the dots or offering a projection based on where he or she thinks rates will be. See the negative dot in the September 17, 2015 update. That is believed to be Minneapolis Fed President Narayana Kocherlakota, who is retiring at the end of the year, making a statement about his fear of deflation.

If we assume Kocherlakota’s projection is the exception rather than the rule, the September 17, 2015 dots show 6 of the 17 members (35%) thought the Fed should have hiked last week (we are assuming no one thinks a 50 basis point hike is realistic). Another 7 dots (41%) would have been “OK” with a hike last week. In other words, 76% of the members either wanted a hike or would not have stood in the way of a hike.

Four members projected a year-end rate of 0.125% or lower.

Of the three 0.125% dots:

  • One is believed to be Chicago Fed President Charles Evans, who earlier this year said a rate hike in 2015 would be a catastrophe.
  • Another is believed to be New York President Bill Dudley, who said late last month that a rate hike seems less compelling than it was a few weeks ago.
  • The third 0.125% dot is unknown. But if 76% of the members would have voted for a hike, only one person’s vote would be important enough to convince these voters otherwise. Enter Janet Yellen.

So did the Fed hold off on a hike because the committee was not ready to act or because Yellen was not ready to act? We think the 2015 dot plot suggests this had more to do with Yellen’s hesitance than the rest of the committee’s desire to hike.

DashProj092015.jpg

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  • MarketBeat (WSJ Blog) – Markets Flummoxed by Uncertain Federal Reserve
    It’s as if the hand that has spoon-fed the market for seven years has suddenly become shaky. U.S. stocks are dropping sharply, even after the Federal Reserve did what everybody assumed it would, which was to leave rates alone. Nobody was surprised by that. What was surprising was the indecision the bank exhibited in coming to that decision. If the economy is growing, why isn’t the Fed raising rates? If the state of affairs is so parlous, why isn’t the Fed moving in the other direction (negative rates, anybody?) Is the Fed still data dependent? Then whose data is it dependent upon? China’s? In pausing, the Fed opened a whole new can of worms. This has left the markets somewhat flummoxed…It’s a rare and curious moment for the markets. “Don’t fight the Fed” has been more than a guiding mantra, it’s has been a iron-clad law. To key off the old Chuck Prince line, the Fed has been playing the music, and the market has been dancing. Now, the Fed seems completely unsure of what tune to play, and from where it should taking its lead. The Fed has been hinting all year that the recovery was fast approaching the point where the economy could absorb higher rates. Even yesterday, the bank was talking up the economy. But its actions undercut its words. “How are market participants supposed to discount the Fed decision now?” Chris Low, the chief economist at FTN Financial, asked. “When Fischer says there is no value in waiting for another meeting for clarity because there never is more clarity, or Dudley says the Fed looks at financial markets from a long-term perspective and isn’t concerned with levels, should we ignore them?”
  • The Financial Times – Fed risks dropping the reins on US policy
    While the domestic argument for an initial policy rate change remains firm, the Fed acknowledged that global developments centred around China and emerging markets, which had led to market and economic turbulence, had swung opinion back again. But August’s tremors were not isolated or random, and force us to ask how long this stand-off can go on, given that China’s travails, for example, are not going to end any time soon. And what if it did go on?…This begs the question: how long should the Fed cite China or emerging markets as a reason for keeping rates on hold, especially if the domestic case for not doing so becomes even more compelling? Seven years of zero interest rates have already contributed to mounting financial distortions in emerging markets. If the Fed continued with financial market stability as the leitmotif of policymaking, a later but more disruptive policy adjustment and greater instability are the all too likely outcomes. The Fed should start telling markets about the difficult trade-offs it faces.
  • The Financial Times – Waiting for Yellen
    Investors would be forgiven for feeling confused. If the risk of an emerging market shock was the Fed’s main worry in the third quarter, what are the chances it will have receded by the fourth? Presumably they are slim. In which case, is a delay of a few weeks remotely adequate to the risks? Nobody said central banking was easy. But Ms Yellen’s communications have recently been at sixes and sevens. The Fed started off 2015 indicating that it would exit from zero-bound interest rates this year. Initially speculation focused on June. But another winter contraction in the economy pushed that back. Then it needed to be sure the second quarter rebound was real. Expectations were nudged back to September. It concluded the rebound was on track. Joblessness continued to fall at a rate that implied wage inflation was not far off. In between, the China crisis struck along with signs its authorities lacked “deftness” in handling it. Now the timetable has slipped again. By December the US economy may be heading into another quarterly contraction. Moreover, China’s problems, and those of other emerging markets, are likely to take years to work out. Ms Yellen has thus laid a recurring trap for herself. More hawkish officials worry that each time the Fed limbers up for an interest-rate increase, market volatility increases, credit conditions tighten and the Fed feels obliged to postpone.