The pervasive narrative on Wall Street is that the collapse in oil prices
will, any second now, restore consumers to their profligate spending ways.
In fact, financial pundits have been calling for plunging energy prices to
imminently rescue the economy for the past 18 months. Most importantly, these
same gurus, who love to espouse the benefits of a collapse in oil prices, never
connect the dots to what this collapse says about the state of global growth.
Instead they argue it is solely a function of a supply glut that is the result
of increased production.
West Texas Intermediate Crude (WTI) fell from $105 a barrel in June of 2014,
to well below $30 in January of this year. The cratering price of WTI did not
occur from a sudden surge in crude supply, but rather due to the market beginning
to discount future plummeting demand coming from a synchronized global deflationary
recession. According to the U.S. Energy Information Administration, world crude
oil production has increased by just 3.3% since June 2014. Therefore, it is
sheer quackery to maintain that such a small increase in crude production would
result in prices to drop by 75%.
Oil prices are either discounting an unprecedented surge in supply, or a rapid
destruction in demand. The Baker Hughes Rig count on an international basis
is down by 218 rigs y/y. Therefore, despite any marginal increase in new supply
from the lifting of Iranian sanctions, the drop in prices has to be due to
the market's realization that demand for this commodity is headed sharply south.
It's not just the oil price that has tanked. Stock market cheerleaders have
to ignore commodity prices in aggregate and a plethora of economic data to
claim the global economy is faring well. Nearly all commodities are trading
at levels not seen since the turn of the millennium. It's not just energy that
has crashed but base metals and agricultural commodities as well. In addition,
half of US stocks are down more than 25% and the equity market carnage is much
greater in most foreign shares. High-yield debt spreads to Treasuries also
indicate a recession is nigh.
But to prove the point most effectively, why would the Dow Jones Transportation
Average be down nearly 25% y/y in light of the fact that the cost to move goods
has dropped so severely? If the economy was doing fine, dramatically lower
fuel costs would be a gigantic boon for the trucking, railroad and airline
industry. In sharp contrast, these companies have entered a bear market as
they anticipate falling demand.
Also, why have home building stocks crashed by nearly 20% in the last 2.5
months if the economy was doing well? Especially in light of the fact that
long term rates are falling, making homeownership costs more affordable. And
interest rates certainly aren't falling because governments have balanced their
budgets, but because investors are piling into sovereign debt seeking safety
from falling equity prices and faltering global GDP growth.
Market apologists are also disregarding the blatant U.S. manufacturing recession
confirmed by Core Capital goods orders that are down 7.5% y/y. And the ISM
Manufacturing survey, which has posted four contractionary readings in a row.
And now the service sector is lurching toward recession as well: the ISM Non-manufacturing
Index dropped to 53.5 in January, from 55.8 in the month prior.
It's not just the U.S. markets that are screaming recession. Indeed, equity
market havoc is evident in North America, South America, Europe and Asia. In
the vanguard of this mayhem is the Shanghai Composite, which has lost 50% of
its value since June 2015; as the debt disabled communist nation tries in vain
to migrate from the biggest fixed asset bubble in history to a service based
economy.
The chaos in global markets: from high-yield debt, to commodities, to equites
is all interrelated. It is no coincidence that the oil price began its epic
decline around the same time QE ended in the U.S., and intensified as the Fed
began to move away from ZIRP. The termination of Fed balance sheet expansion
caused commodities and equities to roll over, just as the USD started to soar;
putting extreme distress on the record amount of emerging market dollar denominated
debt.
Therefore, it is inane to keep waiting for lower gas prices to save the consumer--that
point is especially moot because whatever savings they are enjoying at the
pump is being consumed by soaring health insurance premiums. The collapse in
the oil price is a symptom of faltering global growth for which there is no
salve immediately available. This is because there isn't anything central banks
can do to provide further debt service relief for the public and private sectors
because borrowing costs are already hugging the flatline.
And that leads to the truly saddest part of all. If the deflationary recession
were allowed to run its course lower asset prices, including energy, would
eventually lead to a purging of all such economic excesses and imbalances.
However, since deflation is viewed as public enemy number one, no such healthy
correction will be allowed to consummate. To the contrary, what governments
and central banks will do is step up their attack on the purchasing power of
the middle class in an insidious pursuit of inflation through ZIRP, NIRP and
QE.
That's the truth behind the oil debacle. Don't let anyone convince you differently.
