As I noted yesterday, I accidentally gave a license to my neighbors and daughter’s friends’ parents to contact me after they found out that I’m an economist.
“I thought you said American oil was going to $100,” my daughter’s friend’s father asked.
“American” oil is known as West Texas Intermediate or WTI crude. This is the U.S. benchmark that trades out of our New York (NYMEX) exchange. The other global benchmark is known as Brent crude and is priced and traded out of the North Sea.
“It did,” I said, stuck on the word American. “Brent crude was $105 this morning. WTI was at $99.”
“But it didn’t stay there,” he said. “Why’s it falling?”
I checked my screens. WTI crude and all of the oil names like Exxon Mobil (XOM) and Chevron (CVX) were falling on Thursday after a blowout morning. Momentum indicators were falling alongside prices. This was… a selloff.
Here’s What Happened to Crude Oil
I wasn’t aware that when I tell people at a 3-year-old’s birthday party that I expect crude oil (or American oil) to go to $100, I need to explain trailing stops and risk management. That’s a perfect conversation to have in a children’s gymnastics center on a balance beam. Or when you’re eating a pizza that has been sliced into 16 slices instead of 8 because of “kids.” But there I was.
This gentleman, who went ahead and bought a bunch of Chevron stock – apparently smiled with joy when oil hit that magic number. CVX opened at $137.83. It was under $132 by 2:30 pm. Now, I didn’t tell him or advise him or even talk about anything that he owns. I’m not an adviser. I’m a geopolitical and momentum expert with a bunch of degrees and 20 years of watching these markets act the way they do.
This isn’t the first time that markets have “sold” on the news. Despite this invasion and expectations that crude oil prices would climb, climb, climb, they finished the day under triple digits. He wanted answers. So I gave him a simple answer. The invasion happened.
Algorithm Trading and Human Error
And all of the anticipation and all of the fear and all of the hype evaporated. And that’s when the profit taking started and accelerated. The algorithms that control about 80% of this market triggered selling, and retail investors followed them immediately.
People who were selling all their tech stocks in fear and buying all the energy stocks at 9:35 am watched as everything they believed went in the opposite direction. And – knowing how they act – they likely bought back their stock that they sold… and sold anything that they bought today. That’s how human psychology works. And what an error it will be.
I do believe – and have good evidence to suggest that WTI crude will go back to $100 while Brent will remain back around $105. But when a major event like today transpires, markets will react in ways you never anticipated. Today’s selloff in the energy and materials spaces makes a lot of sense – because they have been surging in recent weeks in anticipation of this invasion and as a geopolitical premium explodes.
This is the first great geopolitical concern that we have had that wasn’t named COVID dating back to January 2020. That doesn’t mean that you should give up on energy stocks or material stocks. In fact, there remains very positive momentum in this sector. But when things overheat and momentum indicators hit their highest highs, a selloff will ensue. Now is the time to search for bargains in this selloff.
Looking for Value
I said yesterday that I was looking for companies that trade at value. And let me point right where you need to look at this moment. There are stocks trading at deep discounts. We want to focus on their enterprise value to their EBITDA (earnings before interest, tax, depreciation, and amortization).
This is defined as EV/EBIT. This metric gives you a nice buyout multiple that would make the stock an attractive takeover target. The thesis here is that you buy and hold these stocks, and you don’t look at them. Either they will improve their financial conditions over time, or they will be so cheap that someone else will want to purchase it.
Right now, here are a few stocks with very cheap enterprise multiples. Typically, we want to find companies trading at an enterprise multiple of 8 or less. These numbers are well under that: