Welcome to The GERM Report by Dan Graeber, a commentary on the intersection between geopolitical events and the price of oil. GERM stands for Geopolitical Energy and Risk Monitoring. Our indicator is based on the expected price volatility by the end of the current trading week.
Risk level: Orange
RED: Severe (+/- 4%) ORANGE: High (+/- 2%) YELLOW: Elevated (+/- 1%) BLUE: Guarded (+/- ½%)
THE BOOSTER SHOT
- The US Fed by necessity must be extremely powerful.
- Acting “as appropriate” is immensely difficult.
- Brent crude oil prices are flirting with resistance.
Hurricane Dorian raked the US East Coast for much of last week, leaving a plume of oil at a loading point operated by Norwegian energy major Equinor in the Bahamas. Apart from that, though, the storm spared much of the US energy sector, clearing center stage for US Fed Chair Jerome Powell. At a question and answer session in Zurich, the Fed chief sought to allay fears of a recession by saying the economic outlook was favorable. For the broader picture, market watchers will get another read on the global economy when the EIA, IEA and OPEC all release their monthly reports for September. Crude oil prices have reacted noisily to even the slightest hint of economic improvement or contraction and that volatility is likely to be pronounced this week as traders continue to digest Powell’s comments and any reaction on Twitter from the US president. The weekend sacking of Khalid al-Falih, the architect of the OPEC+ production arrangement, may also leave the market guessing what’s next for Saudi Arabia. With the US Fed chief under constant political pressure, the broader market may be somewhat rudderless.
Crude oil prices were volatile last week, though volatility is becoming the new normal. Brent jumped more than 4 percent on Wednesday after yet another draw to US crude oil inventories. Chinese economic data from earlier in the week, however, left the global benchmark with a hill to climb. Brent finished the trading week strong after Powell downplayed the possibility of recession. In the end, Brent was up 1.8 percent on the week to close out at $61.62 per barrel.
Powell said Friday the central bank was “not forecasting or expecting a recession,” instead pointing to moderate growth and a strong labor market in the US economy. He cautioned, however, that there was a “significant” risk to the world’s largest economy and vowed to “act as appropriate” to sustain an economic expansion that’s been running for a decade.
“As appropriate” is the phrase to deconstruct in the modern age of social media politics. Bill Dudley, the former president of the New York Fed, was the target of criticism for an op-ed suggesting that President Trump should be forced to own the consequences of what’s arguably a damaging trade war with China. Trump’s reelection, Dudley wrote, was a threat to the US and the global economy, suggesting the current Fed board was accommodating bad decisions by adjusting policy to fix the president’s mistakes. A spokesperson for the US Federal Reserve responded to Dudley by saying political issues “play absolutely no role” in policy making, however.
The mandate of the Federal Reserve is to promote financial stability and “contain systemic risks.” But the system is changing, and change in and of itself is risky. Managing through a systemic transition, therefore, requires a deft hand. John Maynard Keynes advocated for a “wisely managed” economy, warning that an economy left to its own devices would soon become irreparably lopsided and therefore broken. If trade policy is harmful, it must be left to another manager to correct the mistakes, making the central bank more important in some arenas than the federal executive. Some form of management is essential. Be it through a social contract, or some form of Leviathan, most countries engaged in the Bretton Woods system that grew out of the second world war agreed that an effectively managed interdependent system would maximize economic welfare.
Management becomes even more difficult in the modern landscape of social media politics. On the surface, social media is a liberal arena, making the connections across the global village more and more dense. This should in theory be stabilizing, but it’s not. What makes social networking work like it does is its promiscuity – it gets around from one person to the next to the next. It also gets around, or circumvents, any type of filter. Media philosopher Neil Postman said the modern information era bombards the public with “a meteoric shower of facts,” but laments that there’s no loom to weave these facts into some sort of meaningful fabric. Here too, without some sort of Leviathan-type entity to manage things, the free-for-all system is inherently chaotic. Acting “as appropriate,” – or deciphering what “appropriate” even means – in this type of system is therefore inherently difficult. The reality created on social media is a myth and what’s considered appropriate is profoundly distorted. Instead of becoming more informed, Postman warned, we become “garbage collectors” in the information age.
Traders on Monday may still be assessing the words of Jerome Powell, though the Saudi reshuffling may also be unsettling. The new energy minister, Prince Abdulaziz bin Salman, is an OPEC veteran who is likely to hold the multilateral production agreement in place, though al-Falih’s abrupt ouster may be indicative of a sea change in the Saudi kingdom’s economic priorities. Saudi Arabia needs $80 oil to sustain itself, though some US producers can get by on about half of that. OPEC constraints seem to be at the very least factored in, though US production capacity and sanctions regime may be driving markets more than cartel policy. With Russia usurping OPEC’s strategy to some degree, the collective body in control of more than half of the world’s oil reserves may also find it difficult to act “as appropriate.”
And speaking of volatility, the United Kingdom releases data on Monday on monthly GDP that may indicate just how bad the Brexit process is biting. China on Tuesday publishes its consumer price index for August, so we’ll see just how deeply the trade war is cutting both ways. Tuesday also brings the EIA’s STEO, which should provide an educated guess on the direction for the price of oil. The EIA in its last monthly report forecast a price average for Brent at $64 per barrel for the second half of the year, a good 9 percent higher than the average for August. The committee monitoring OPEC+ meets this week, and Wednesday’s publication of the MOMR on the anniversary of the Sept. 11 attacks may make for a particularly volatile trading day. The IEA concludes the trifecta on Thursday. The week ends with the University of Michigan’s sentiment barometer for September, and falling on Friday the 13th makes it all the more foreboding. Brent at $60 something a barrel is close to resistance, so watch for a clear directional change on the horizon. Candlestick patterns late last week were bullish, though economic sentiments expressed in market monthlies this week could leave the bears with the victory. An Orange alert is in place, with the global benchmark expected to move by plus or minus 2 percent.