The pervasive narrative on Wall Street is that the collapse in oil prices will, any second now, restore consumers to their profligate spending ways. In fact, financial pundits have been calling for plunging energy prices to imminently rescue the economy for the past 18 months. Most importantly, these same gurus, who love to espouse the benefits of a collapse in oil prices, never connect the dots to what this collapse says about the state of global growth. Instead they argue it is solely a function of a supply glut that is the result of increased production.

West Texas Intermediate Crude (WTI) fell from $105 a barrel in June of 2014, to well below $30 in January of this year. The cratering price of WTI did not occur from a sudden surge in crude supply, but rather due to the market beginning to discount future plummeting demand coming from a synchronized global deflationary recession. According to the U.S. Energy Information Administration, world crude oil production has increased by just 3.3% since June 2014. Therefore, it is sheer quackery to maintain that such a small increase in crude production would result in prices to drop by 75%.

Oil prices are either discounting an unprecedented surge in supply, or a rapid destruction in demand. The Baker Hughes Rig count on an international basis is down by 218 rigs y/y. Therefore, despite any marginal increase in new supply from the lifting of Iranian sanctions, the drop in prices has to be due to the market’s realization that demand for this commodity is headed sharply south.

It’s not just the oil price that has tanked. Stock market cheerleaders have to ignore commodity prices in aggregate and a plethora of economic data to claim the global economy is faring well. Nearly all commodities are trading at levels not seen since the turn of the millennium. It’s not just energy that has crashed but base metals and agricultural commodities as well. In addition, half of US stocks are down more than 25% and the equity market carnage is much greater in most foreign shares. High-yield debt spreads to Treasuries also indicate a recession is nigh.

But to prove the point most effectively, why would the Dow Jones Transportation Average be down nearly 25% y/y in light of the fact that the cost to move goods has dropped so severely? If the economy was doing fine, dramatically lower fuel costs would be a gigantic boon for the trucking, railroad and airline industry. In sharp contrast, these companies have entered a bear market as they anticipate falling demand.

Also, why have home building stocks crashed by nearly 20% in the last 2.5 months if the economy was doing well? Especially in light of the fact that long term rates are falling, making homeownership costs more affordable. And interest rates certainly aren’t falling because governments have balanced their budgets, but because investors are piling into sovereign debt seeking safety from falling equity prices and faltering global GDP growth.

Market apologists are also disregarding the blatant U.S. manufacturing recession confirmed by Core Capital goods orders that are down 7.5% y/y. And the ISM Manufacturing survey, which has posted four contractionary readings in a row. And now the service sector is lurching toward recession as well: the ISM Non-manufacturing Index dropped to 53.5 in January, from 55.8 in the month prior.

It’s not just the U.S. markets that are screaming recession. Indeed, equity market havoc is evident in North America, South America, Europe and Asia. In the vanguard of this mayhem is the Shanghai Composite, which has lost 50% of its value since June 2015; as the debt disabled communist nation tries in vain to migrate from the biggest fixed asset bubble in history to a service based economy.

The chaos in global markets: from high-yield debt, to commodities, to equites is all interrelated. It is no coincidence that the oil price began its epic decline around the same time QE ended in the U.S., and intensified as the Fed began to move away from ZIRP. The termination of Fed balance sheet expansion caused commodities and equities to roll over, just as the USD started to soar; putting extreme distress on the record amount of emerging market dollar denominated debt.

Therefore, it is inane to keep waiting for lower gas prices to save the consumer–that point is especially moot because whatever savings they are enjoying at the pump is being consumed by soaring health insurance premiums. The collapse in the oil price is a symptom of faltering global growth for which there is no salve immediately available. This is because there isn’t anything central banks can do to provide further debt service relief for the public and private sectors because borrowing costs are already hugging the flatline.

And that leads to the truly saddest part of all. If the deflationary recession were allowed to run its course lower asset prices, including energy, would eventually lead to a purging of all such economic excesses and imbalances. However, since deflation is viewed as public enemy number one, no such healthy correction will be allowed to consummate. To the contrary, what governments and central banks will do is step up their attack on the purchasing power of the middle class in an insidious pursuit of inflation through ZIRP, NIRP and QE.

That’s the truth behind the oil debacle. Don’t let anyone convince you differently.

In recent days, signs of a possible breakthrough in the year-long stand-off between Russia and Saudi Arabia on crude production strategy have emerged. Saudi Arabia, OPEC’s dominant member, has long insisted OPEC (read Saudi Arabia) would not reduce output to balance supply and demand absent corresponding cuts from non-OPEC members (read Russia), while Russia has consistently insisted harsh climactic conditions prevent Russian producers from reducing output and in any case Russia insists it could withstand low prices as well as any other country.

….read more HERE

If the energy sector can get some relief, the overall market will as well. Ed Yardeni, of Yardeni Research, notes that S&P 500 earnings fell 14.1% in 3Q15 over 3Q14. But that becomes a 3.4% rise in earnings when the drag from the energy sector is removed. Of course it’s a lot easier to do that math on paper with conjecture than it will be for energy to actually recover.

The turnaround will need to happen soon. History shows that corporate profits tend to drive the ups and downs of the business cycle. Profitable companies increase advertising spending, increase capital investment, hire new workers, and raise pay to poach talent from other companies. Unprofitable companies shrink.

….read more HERE

Inventories will continue to rise, but the momentum is slowing.

The following are some observations as to how we got here and how we’re gonna get out.

9 reasons why oil has taken so long to bottom:

1. OPEC increased production in 2015 to multiyear highs, principally in Saudi Arabia and Iraq where production between the two added 1.5 million barrels per day (mb/d) to inventories after the no cut stance was adopted. 

2. Russian production increased in 2015 to post Soviet highs.

3. Long planned Gulf of Mexico production began coming on in late 2015.

4. An overhang of 3,000 or 4,000 shale wells that were drilled but uncompleted (“ducks”) entered a completion cycle in 2015.

5. Service companies and suppliers went to zero margin survival pricing (not to be confused with efficiency). The result has been an artificial boost to completions that cannot be sustained.

6. Resilience among a few operators in the Permian who felt the need to thump their chests, creating the rally that killed the rally last spring (disclosure: I own stock in Pioneer Resources but am going to dump it if they don’t cut it out!).

7. The dollar strengthened.

8. Iranian exports are coming.

9. And, finally, China.

5 Demand-Side Reasons Why We Need to Hang-On:

….read more HERE

Incredibly oversold markets finally got some relief last week. By the time we got to last week’s update, world markets were already due for a relief rally.

What they got after the Friday drubbing finally could be classified as that “other shoe” on Wednesday that gave markets the feel they were going down and never coming back. The VIX got above 30, and the other shoe is the kind of thing markets need for an important turn.

….read more HERE