This afternoon, the markets experienced yet another surge in volatility and another round of selloffs in the FAANG stocks. Right now, there is chatter that Russia could invade Ukraine at any moment — and there’s an expectation that the Fed might take action on monetary policy.
Changes to policy could include the first inter-meeting rate hike since 1994 – something I distinctly remember where I was when that happened – OR the end of the bond purchasing program at least a month early. It’s difficult to navigate this market because of the ongoing rounds of selling into rallies. But one thing is for sure. Oil prices appear ready to surge to the $100 level or higher. Here’s the latest on that front…
Why Oil is Heading Higher (More Upgrades, Less Supply)
Today, JPMorgan released a new report suggesting that oil could hit $125 by the second quarter of 2022. Right now, OPEC (the global oil cartel that truly controls the supply side of the global equation) is struggling to meet its quotas. The risk premium set by the investment bank was a staggering $30 per barrel. That’s an incredible outlook.
There appears to be little reason why the cartel would increase capacity beyond its targeted goal of a 400,000 barrels per day increase. As the global economy continues to emerge from the global COVID-19 crisis, a critical factor has weighed on the cartel’s outlook. There’s a lack of investment capital in the global oil patch.
“The world will continue to be thirsty for oil for the foreseeable future, but we are beginning to have challenges to access investment capital,” said former OPEC Secretary General Barkindo. I’ve been waiting on this statement for four months. The reality is that around the globe, energy producers learned their lesson the last time that oil hit $100. We saw shale producers in the Bakken and other U.S. fields over expand their capacity. An effective “black gold rush” turned into a boom and then a bust all across the nation. Oil would plunge from triple digits to under $40.
The result was a wave of bankruptcies and distressed producers all across the energy sector. I don’t think we’ll see that happen again. In fact, I think the combination of that lesson plus rising costs of capital due to the Fed raising rates and ESG (Environmental, Sustainability, and Governance) standards are making it harder on companies to drill.
Instead, they can just sit on their assets and watch their stock prices rise as oil prices go up. They can also buy back their stock OR sell off assets and purchase stock again. Companies like ConocoPhillips are already exploring the possibility of selling assets with oil prices this high and then returning the capital to investors or paying off debt. This is smart leadership. I expect a lot of companies to follow suit.
What to Do About Russia and the Fed
Right now, there isn’t a whole lot that we can do about the Fed or Russia. This entire situation with Russia feels like an odd battle between ideologies from the 1990s that have finally come home to roost. I’m doing my best to tune it out – but markets are reacting with a pronounced level of fear because we’ve largely forgotten what it feels like to have a major geopolitical event rattle us.
Meanwhile, the Fed is so behind the curve on inflation that its hawks are crowing the loudest, while the doves are likely to keep their opinions on ice until they complete their meetings or speak in the wake of the March 16 event. An interest rate hike would likely fuel a dramatic selloff in any assets that have high valuations. But for now, we’ll want to simply monitor momentum and look for any potential in the materials and energy space.
Momentum is very weak as investors attempt to weigh today’s events. Remember that cash is your friend, and so is a break from the computer. We’ll look for buying opportunities as they present themselves.