Oil in the Age of Forward Guidance

In the latest edition of the LSR View on oil markets, Konstantinos Venetis delves deeper into the supply side of the oil market, focusing on the strategic interaction between the main producers: Saudi Arabia and the rest of OPEC; Russia; and the US shale industry. Venetis writes that to understand these players’ respective reaction functions, it is helpful to view things through the lens of game theory. This is primarily a ‘game’ between OPEC+ on the one hand and US tight oil producers on the other. But there is also another, perhaps equally important but frequently overlooked battle taking place on the sidelines between Saudi Arabia and Russia, which goes beyond economics and complicates the outlook for crude. That battle relates to the current apparent ‘truce’ between OPEC+ and US shale as an unstable equilibrium. US operators are currently in a sweet spot, but they running on borrowed time, not least as Russia’s incentive to continue cooperating fully is likely to dwindle going into H2 2018, says Venetis. This complicates any plans Saudi Arabia may have to unwind the supply cuts. The rising prominence of US shale producers in the global oil market means that the cartel may find it hard to engineer a clean exit from the deal.

Blockchains: The Governance Challenge

RenMac’s Howard Mason provides a quick primer on Block-chain and issues of governance in this note. Block-chains are databases distributed over an IP-network which enable participants who have no reason to trust each other to form consensus on the existence, status, and evolution – through database updates (a.k.a transactions) – of a shared set of facts.  Where the database tracks asset ownership, it acts as a shared ledger and can support the real-time exchange of value (a.k.a payments) in the same way that a shared application served by a central database supports the real-time exchange of data.  Turning to Bitcoin, Mason reckons that as a medium-of-exchange, it does not even compare favorably at this point with a bank wire: transactions can cost more, take longer, and be less certain.  Over the past 7 days the average transaction fee is $15, the average transaction time has nearly been two hours, and the backlog of unconfirmed transactions at all-time highs and probably worth over $3bn.  There is no obvious fix for Bitcoin because the professional miners who now control the network are not aligned with users in seeking lower transaction fees.

US Tax Reform: Vote to Pass by Wednesday

Cowen & Co’s Washington Research Group have been prolific in their coverage of US tax reform, to the point where their analysts even admit they’re a little jaded. They write that the largest rewrite of the tax code should be done by Wednesday, which weighs in at $1,456,000,000,000 on the government credit card (basically twice the Obama Stimulus, which was at peak of financial crisis versus record market highs and full employment). A trillion is a million millions. This bill should pass this Wednesday. The 1,097-page bill (with a 570-page joint explanatory statement) was filed on Friday evening. The one-two punch of Sens. Marco Rubio (R-FL) and Bob Corker (R-TN) announcing their support for the bill on Friday afternoon means that this bill could probably pass on inertia alone, write the Cowen analysts. Reading through all of the analyst notes, we think Cowen have provided the most detailed account of all of the provisions in this bill. 

What if Swedish Housing Prices Drop 15-20%?

After several years of surging house prices, together with recent macro prudence measures, affordability has been hit. On top of this, the supply of new (expensive) apartments, after a couple of years of booming residential investments, is now coming to the market. So far prices (of flats) in Stockholm have declined by some 10%, and they could have further to fall, say Danske. Previous downturns in the housing market suggest a fairly big impact on GDP via the residential investments. Danske’s scenario implies sub-par growth but no recession. As private consumption has benefitted from the higher house prices in recent years the housing market poses a risk to both Swedish growth and the inflation outlook. Hence, the Riksbank will have difficulties in making an interest rate hike as currently planned. In terms of the market impact, the krona is feeling the pain but the rates market is yet to adjust. This offers an opportunity to take positions for a re-pricing of the rates market (krona, stock market and the covered bond-SGB spread have already moved). This the recommend that investors receive short end FRAs or swaps (1Y1Y) vs EUR, and look for a relative SEK steepener 1Y1Y- 5Y5Y vs EUR and buy 5y SGB1054 vs Bobl. In a stressed scenario SEK can weaken further and EURSEK stay above 10 in the medium term.

Technicals 2018: Price Trumps Technicals

In 2018, price trumps headlines, writes Stephen Suttmeier in his annual technical outlook. He reckons excess headlines and tweets during 2017 about rising geopolitical tensions, populist divides, surprise economic reforms and devastating natural disasters may have unjustly influenced an investment strategy. Part of the technical advantage means stepping back from the headlines that can distract from primary trends. He and his team trust prices to confirm market direction and establish clear thresholds to validate or invalidate their views. Heading into 2018 Suttmeier and his team like USD/CAD to 1.32s, EUR/JPY to 140 & EUR/GBP to .83s. Bullish Asia FX on dips; lower USDINR & USDTWD. US 30y yield to 3.5%. WTI to upper $60’s, possibly more. SPX could see 3,000 by 2019, NKY to 25,580, bullish Bovespa & Micex.

Saudi Politics Emerges as Key Economic Risk

Saudi politics has been a staid affair for decades, but Crown Prince Mohammed bin Salman’s launch of an anti-corruption crackdown and his ratcheting up of tensions with Iran herald a period of greater uncertainty, writes Capital Economics. The crackdown is likely to deal a short-term blow to the economy and, further ahead, there is a serious risk of a backlash against the crown prince that brings the Vision 2030 reforms to a grinding halt. This comes as the Kingdom has set up an entity to hold the assets seized in the crackdown. In terms of markets, Capital Economics think the dollar peg will remain intact, but Saudi dollar bond spreads are likely to widen.

Will ‘’Democrat Doug’’ Undermine the USD?

‘’Democrat Doug” has added an additional twist to the US political story (if his victory in Alabama is confirmed), writes the FX strategy team at SG. Significant fiscal easing just got harder and there’s nothing here to help the dollar, they add. All of which is largely ignored by markets which are digging in to wait for the FOMC meeting at 7pm this evening GMT.

CAD Longs at Risk

Recent CAD selling by hedge funds and real money represents an important directional shift, writes the FX strategy team at BAML. They say hedge funds have moved decisively to reduce extended CAD longs, while real money are lagging and have much further to go. Therefore they continue to think that USDCAD will retest 1.33, driven by fundamentals and position liquidation potential.

Sweden’s Housing Market in Free Fall

Tomorrow sees the release of the HOX/Valueguard data on Swedish housing prices, which will attract a lot of attention. Based on weekly data from Booli Pro, Nordea forecast further price declines in November. They expect home prices drop by 3% over the month (seasonally adjusted) and by 1 % over the year. This would be the largest drop since October 2008. This will further raise the alarm bells that the Swedish housing bubble has indeed burst. But, there are some reasons for optimism, say Nordea.

UK CPI Looks Set to Fall, Helping Growth for 2018

Keith Grindley from Macro Thoughts has been forecasting the year end peak in UK inflation since the beginning of the summer, and that the BOE would raise rates in November, because there was a very small window of opportunity before inflation started to fade from its peak. In this note, he examines in detail the various components of UK’s inflation, and how he remains positive on the inflation outlook, which should translate into growth in 2018. Still, he does warn that higher global energy prices will dampen activity over the summer.