Each week Josef Schachter gives you his insights into global events, price forecasts and the fundamentals of the energy sector. Josef offers a twice monthly Black Gold newsletter covering the general energy market and 37 energy, energy service and pipeline & infrastructure companies with regular updates. We also hold quarterly webinars and provide Action BUY and SELL Alerts for paid subscribers. Learn more.
Global Economic, Political & Military Update:
Stock markets have lifted due to no further major bank runs and the calming comments by US Administration and Fed officials. The Dow Jones Industrials have lifted from 31,400 in mid-March to 34,040 today. We think that this bounce is near its end and that another decline is likely into late May. Our expectation is that earnings for Q1/23 may prove disappointing and that if guidance is negatively postured then the downside for the general stock markets could be > 10%. Our expectation is that the Dow will fall below 30,000 before the end of next month. If there are more bank problems in the US, Europe or China then the downside could be more painful. In this scenario the Dow would fall below the low of October 2022 at 28,700.
So for now one should wait to see if this unfolds and if it does we may see the other two energy BUY signals triggered and we will add more ideas to our Action BUY List. The one I would love to see is the S&P Energy Bullish Percent Index falling below 5% which would trigger a Table Pounding BUY signal. The March 13th first BUY signal occurred when this Index fell to 8.7% (below 10% a BUY signal) from 43% just a week earlier.
The recent inflation data in the US has given some comfort that we may have seen the peak in US inflation. However, the data while supportive of this thesis are still a long way from the Fed target of 2%. The recent CPI year over year data showed a slowdown to 4.98% in March and declined due to the energy component which was down 6.4% due to the fall in crude and natural gas prices. Gasoline prices at the pump fell 17.4% last month but have now reversed back up and will hurt future CPI and PPI data. Core CPI remained at a high 5.6% in March above the 5.5% of February. While energy helped the data, shelter was up 8.2% year over year and food was up 8.5%. Rental costs according to Zillow and the Zumper Indices showed year over year increases of 6.0-6.5%. So no reprieve here yet.
OPEC enjoyed shafting the bearish energy futures traders with their April 2nd announcement that they would cut production by 1.2 Mb/d starting in May. This lifted crude oil prices by over US$10/b over the last two weeks. Today WTI is at US$82.95/b. Futures positions have swung from net short 113Mb to net long 400 Mb and back to late January levels. If we are right that the general stock market faces downside pressure into late May then the price of WTI could decline below US$75/b and give us the next low risk BUY window. OPEC plays these games of announcing production cuts but in the end does not follow through. See more below in the OPEC Monthly section.
There is still concern about banks in the US and money continues to move to money market funds. Investors have taken their deposits from banks and have moved to money market funds which are yielding more than bank saving rates. There is now over US$5.1T tucked into money market funds, a record high. As a result banks have less funds to lend out and this has made access to borrowing at banks more stringent and more difficult. Bank deposits are down nearly a trillion dollars from their peak and this adds to the economic slowdown thesis as banks lower their risk profile. In the last two weeks of March lending dropped by US$105B alone, the most in Federal Reserve data since 1973. Most of the drop in loans was at small banks and were for small business and consumer loan lending.
Lower income individuals are having problems with their subprime auto and home loans. Delinquent auto payments are now at 6.05% of all loans and are now higher than during the financial crisis (GFC) of 2008-2009 which rose to 5.7% of all outstanding loans. The high inflation and low wages in this income class have driven 44% of Americans to have a second job to make ends meet.
European banks remain a concern and two are under the radar: Deutsche Bank and BNP Paribas due to their large off balance sheet derivatives. Global derivatives are seen by Bloomberg at over US$2,000T – US$2+ Quadrillion). If any bank does not want to settle with a bank it does not trust as a counterparty then the house of cards could tumble. So any more pressures on banks’ deposits or counterparty trade fails, could cause severe runs and the pressure to merge or go under. In 2008-2009 after Bear Stearns was forcibly merged into a reluctant JPMorgan, the next to go was Lehman which did not get support and went under and the GFC stock market meltdown ensued. This is the sword hanging over the banking world now. How far will Central banks and Governments go to bail out banks that took on too much risk? How much is the blame due to the ECB and the Bank of Japan for having gone to negative interest rates, which severely injured the profitability and capital positions of the banks?
Look at the Dow, S&P 500, NASDAQ charts of 2008-2009 and 2020 and you can see painful declines in the stock markets with bounces and corrections that provide additional buying windows. This is the scenario I see unfolding over the next month. Consider all sectors you own and add to your favorite names on the upcoming corrective phase. Of course have a decent allocation in the energy sector to take advantage of the ongoing energy super cycle. Many energy stocks are down over 50% from their 2022 highs. If you want to see what our subscribers are looking at (the 14 new ideas added on March 13 and March 15th to the eight already there – now a total of 22 energy investment ideas), sign up now for access to the Schachter Energy Research reports at https://bit.ly/2FRrp6k. We expect to add additional ideas during this next decline phase especially if the S&P Energy Bullish Percent Index falls below 5% and triggers a Table Pounding BUY signal.
Regarding the next Fed meeting on May (2nd and 3rd) many forecasters are expecting no increase in the Fed Funds rate and that in 2H/23 there will be two rate cuts. We do not concur unless a major GFC crisis unfolds. The reason is inflation is not abating sufficiently for food, energy and shelter. We see energy prices having bottomed out and rising in 2H3/23 to over US$90/b which will impact CPI and PPI and supply chain costs. In addition, recent wage increases are not conducive to the Fed’s goal of 2% inflation. It is likely that the Fed will raise the rate by 25 BP and then guide to a pause as they await further data. We do not see rate decreases in 2023 unless the US economy plunges quickly into a recession of some consequence which now seems unlikely.
On the political and military side the stalemate in Ukraine continues with both sides running out of ordinance. The shelves are bare from suppliers in NATO for Ukraine and Russia is leaning on North Korea, Iran and now China for needed munitions for the spring/summer offensives. The recent Pentagon leak about the US concerns about Ukraine’s ability to launch an offensive has annoyed Ukraine and forced the US to find the leaker. This is considered by the military to be the biggest intel leak in a decade.
China has completed surrounding Taiwan showing the world that they could blockade the country anytime they wanted. As a result the US plans to station more naval assets in the area and will have ships move in international waters near Taiwan in support. Some forecasters think that China is readying for such a blockade as they are selling off their US Treasury holdings and moving to reduce their economic exposure to the US. Taiwan also is concerned that something is imminent as they suspect China cut some of the island’s internet cables. The US Space Force Commander General Chance Saltzman spoke before the Senate Armed Services subcommittee that China and Russia have deployed space weapons to attack US satellites. China now has 347 satellites according to his testimony. They would seek to disable US space communications and navigation systems as well as ground components in any protracted conflict. Something nasty could break out anytime.
Bullish pressure for crude prices continues with the modest production cutbacks by OPEC and increasing signs that China is reopening. The economic and energy bulls hope China reopens successfully and crude demand increases by over 1.5 Mb/d in 2023. The OPEC announced cut of 1.2 Mb/d starting in May are just rhetorical barrels, just as the 2.0 Mb/d cut OPEC had announced last year.
Bearish pressure for crude comes from the weakness in economies in the US, Europe and Japan. Crude demand destruction due to weakening global economies could be greater than any supply cutbacks from OPEC. The US alone has consumption down by 6.1% from 2022 levels according to today’s EIA Weekly Petroleum Report (see below).
EIA Weekly Oil Data: The EIA data (data cut-off April 7th) was mostly bearish for oil prices. US Commercial Crude Stocks rose 0.6 Mb to 470.5 Mb. This rise was due to Net Imports rising by 1.56 Mb/d or by 10.9 Mb on the week as Exports fell 2.51 Mb/d. Commercial Crude Storage now is 48.8 Mb or 11.6% above a year ago. The SPR saw a release of 1.6 Mb of crude last week due to the administration approval. Total Stocks rose by 8.4 Mb to 1,235 Mb and are up 83.5 Mb from a year ago or up by 7.2%.
Total product demand fell last week by 1.54 Mb/d to 19.06 Mb/d from 20.6 Mb/d in 2022. Motor Gasoline inventories fell by 0.3 Mb while Distillate Fuels fell by 0.6 Mb. Refinery Utilization fell 0.3% to 89.3%. US production rose last week by 100 Kb/d to 12.3 Mb/d. Cushing inventories fell 400 Kb/d to 33.8 Mb. Motor Gasoline consumption fell by 360 Kb/d to 8.94 Mb/d while Jet Fuel saw a decline of 169 Kb/d to 1.52 Mb/d.
Demand destruction is real in the US. The numbers gyrate weekly but the important point is that demand has declined from last year. On a cumulative daily average for 2023 versus 2022, demand is down 6.1% (19.78 Mb/d versus 21.07 Mb/d).
EIA Weekly Natural Gas Data: The EIA data released today last Thursday showed the first build of the new injection season with a 25 Bcf addition for the week ending April 7th. Storage is now at 1.86 Tcf. The biggest increase was in the East (up 10 Bcf). This compares to the five-year injection rate of 44 Bcf and the 2022 injection of 15 Bcf. US Storage is now 33.0% above last year’s level of 1.39 Tcf and 18.9% above the five year average of 1.56 Tcf. With the warmer weather and the healthy storage position, NYMEX has retreated from US$7.10/mcf in mid-December to US$2.05/mcf today. AECO today hovers around C$2.62/mcf. Natural gas prices may remain weak for a while until the summer air-conditioning season adds to demand.
Baker Hughes Rig Data: In the data for the week ending April 6th the US rig count was down four rigs to 751 rigs. Of the total rigs working last week, 590 were drilling for oil and the rest were focused on natural gas activity. The overall US rig count is up 9% from 689 rigs working a year ago. The US oil rig count is up 8% from 546 rigs last year at this time. The natural gas rig count is up 12% from last year’s 141 rigs, now at 158 rigs. Recent lower crude and natural gas prices is the reason for the slowdown in drilling from the prior very active pace.
In Canada, there was a decrease of 12 rigs to 127 rigs as winter programs end and spring break-up road bans start up. Canadian activity is up 14% from 111 rigs last year. Activity for oil is lower by 2% or six rigs to 52 rigs versus 53 rigs last year. Natural gas rigs were down six rigs to 75 rigs but up from 58 rigs last year. We are clearly past the peak of drilling activity for Canada for winter 2022-2023. After spring breakup is over we should see the rig count in Canada recover to over 200 rigs during the summer drilling season.
OPEC Monthly Report:
The April 2023 report released today showed that in March OPEC saw a decline in production of 86 Kb/d to 28.8 Mb/d. The decline was due mainly to Angola which is having production difficulties, due to low capex, and they saw volumes fall 64 Kb/d to 1.0 Mb/d. Overall OPEC cuts since Q3/22 are only 603 Kb/d, way below their official 2.0 Mb/d cut. The largest decline in production came from Saudi Arabia which cut 486 Kb/d to 10.40Mb/d from its high in Q3/22 of 10.89 Mb/d. The issue going forward is whether there will be a recession or not. If not, then the view is that demand will rise this year by 2.3 Mb/d to a record 103.3 Mb/d in Q4/23. If there is a slowdown or recession, which we think is likely, there should be a build in supplies in 2023.
The biggest reduction after Angola came from Iraq with a cut of 18 Kb/d to 4.36 Mb/d. Others cutting production included Nigeria (17 Kb/d) and Equatorial Guinea (12 Kb/d). Lifting production were Saudi Arabia (44 Kb/d), Gabon (7 Kb//d) and Venezuela (2 Kb/d).
OPEC’s announcement on April 2nd to cut 1.2 Mb/d of crude was a shot against oil shorts which rushed to reverse their bearish posture. A US$5/b rally occurred as this reversal of positions unfolded. Nice short squeeze play. The problem is that OPEC did not cut their announced 2.0 Mb/d cut last year and it is unlikely that any producer outside of Saudi Arabia can afford to cut production given their domestic funding needs.
CONCLUSION:
Historically, as a global recession unfolds, crude prices typically plunge sharply. In 2008-2009 during the financial crisis, demand fell by over 5Mb/d from over 88.5Mb/d to 83Mb/d. The price of crude fell from US$147.27/b to US$33.55/b in eight months. During Iraq’s invasion of Kuwait, prices rocketed from US$16.16/b in July 1990 to a high of US$41.15/b in October and then plunged in four months to US$17.45/b as recessionary demand destruction occurred. So far this war cycle of Russia invading Ukraine has lifted WTI to US$130.50/b in March 2022 (US$75/b at the beginning of the year) to a low in 2023 of US$64.36/b or down by 51%. We see this low being the low for 2023 but we can back off from current higher prices as we see the first correction in this new bull phase. By late 2023 we see WTI breaching US$90/b and in 2024 US$100/b.
WTI is priced today at US$82.95/b. We expect crude to trade between US$70-US$84/b over the next few weeks with a breach of US$75/b likely during May. Take advantage of the bargains in energy stock prices as this develops. I also expect at least one of the remaining two BUY signals to be triggered and more ideas added to the SER Action BUY List. Subscribers, keep an eye in your in-basket when you see big down market days. These down market days are the best days to build your positions for the lengthy energy super cycle I see lasting into the end of the decade.
Energy Stock Market: For the overall stock market we expect a focus on Q1/23 earnings and negative guidance from companies to take hold of the market and see further erosion. Any further bank failures would cause this decline to be more severe.
The S&P/TSX Energy Index today is at 243 (up 34 points from the mid-March low or up 16% since we triggered our initial two BUY signals) as the market gets a reprieve due to the bandaids put on by the Central Banks and Treasury Departments to halt the bank runs. The stocks we recommended have done well since added to the Action BUY List. Decide where you want your energy weighting to be for the next major up-leg in this long energy super cycle. Our Coverage List includes ideas from the Pipeline & Infrastructure area, Canadian oil and natural gas ideas, energy service ideas and companies working internationally. Our list includes large Conservative ideas and small to large caps in our Growth and Entrepreneurial categories. Add to your current ideas or add new ideas. Review the coverage of all our Coverage companies and their Q4/22 and 2022 results that have been released in recent issues. We cover four more companies in the upcoming report which comes out next Thursday April 20th.
We have fully rejoined the bull camp on Monday March 13th when the first of our four BUY indicators kicked in. We added seven great ideas to the original eight. This took us to 15 great BUY ideas. On March 15th crude busted US$70/b (dropping to US$65.65/b) as fear of a global recession due to the financial crisis woke up memories of 2008-2009. The market got hit that day by the problems and later forced merger of Credit Suisse by UBS in a take-under that reminded investors of the forced merger of Bear Stearns into JPMorgan, another takeunder where Crude fell over US$5/b that day. We added seven more ideas that day taking the Action BUY List to 22 ideas.
We have two more BUY indicators that usually occur when the fear level rises and intermarket liquidation occurs. If they trigger during May we plan to add an additional four to six new ideas to the Action BUY List, if the stocks reach our target BUY ranges.
We have nearly completed our review of all 37 companies that we cover and bargains are everywhere. Many E&P companies now trade below their PDP levels (proved developed producing reserves). You get the proved non-producing, the probables, land and tax pools for free and with some you are being paid dividends (regular and specials providing yields in excess of 10%). That’s not easy to beat in other market sectors. Many of the service companies are trading debt free or near debt free balance sheets and some are now paying dividends. And on the pipeline and infrastructure side you have companies trading with 6-7% yields and are trading 20-25% below their 2022 highs. In a recovery they should see 15%+ capital gains for total upside returns in this conservative sector of over 20% in the next twelve months. For E&P and Energy service stocks we see 50%+ upsides from capital gain potential and dividends for those that pay them. Why such upside? We forecasted in recent months that WTI would lift into the US$80’s during Q2/Q3 (now realized) and for trading in Q4/23 to reach above US$90/b. That should give the energy sector large capital appreciation potential.
We are working on our April Report which will be out April 20th. In this issue we plan to cover four more of the companies we cover that have reported their Q4/22 and 2022 annual results by our report cut-off date. This issue will also include an update of our Insider Trading Report. If you are interested in access to these research reviews, become a subscriber and get our timely BUY Action Alerts as well, go to https://bit.ly/2FRrp6k.
Our next SER quarterly Webinar will occur on Thursday May 11th at 7PM MT. To join this 90 minute timely update on the markets and the best BUY ideas that we have one needs to be a paid SER subscriber.
Please feel free to forward our weekly ‘Eye on Energy’ to friends and colleagues. We always welcome new subscribers to our complimentary energy overview newsletter.
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