Readings from the TIS group ..Excerpt from today's TIS (The institutional strategist) brief .. Note that references to charts are useless .. I could not paste them in... apologies .. bolding and emphasis is my own.
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DECEMBER SEASONALS ARE POSITIVE FOR STOCKS, BUT…
In the U.S. equity market, the Santa Claus rally is a tradition which is backed up by the data. The fabulous Stock Traders Almanac has calculated that over the past 40 years, that NYSE stocks selling on their lows on December 15th, have averaged a 13.2% gain through February 15th of the following year. The NYSE composite over that time has averaged a 3.1% gain. Since 1949, the S&P 500 has gained an average of 3.0% in Q4.
The current year is more than on track with the S&P up about 7% since September. So if anything the S&P is ahead of schedule. Historically, some of the best periods for stocks in December have occurred closer to Christmas, the last two weeks of the month. I bring this up, not to fuss over what happens over the next 30 days, but to point out not only that the market may be ahead of itself but more important, something unusual is going on in terms of fund flows.
While stock buybacks have put persistent upside pressure on stocks, the untold story might be the influence of hedge funds. The following chart shows how hedge fund inflows have surged since 2009. Hedge Fund Flows Courtesy of Bloomberg LP
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What is unfolding in hedge fund land is that fund flows could turn negative in Q4. The number of funds which are either closing or have experienced losses this year which suggest redemptions this year, is becoming significant. Bluecrest is returning capital to outside investors. Fortress closed its macro fund. Och-Ziff and Mason Capital have seen cash move out this year.
Performance at some big firms such as Greenlight (down 21% in their case) and Pershing Square (down 17% at the end of November) are the kind of numbers which can affect investor psychology. In the commodity sector, Trafigura’s metals funds, Galena is closing entirely. Redemptions and closures force selling. Given the losses which exist this year in the energy sector, base materials and now some prominent hedge funds, I am wondering if tax related selling and selling related to redemptions will mute or entirely offset what Santa Claus might have done.
2 ENERGY SERVICES ENERGY SERVICES
The U.S. oil and gas industry is caught in the grips of an historic event that the nouveaux domestic shale industry has never seen before. There are two dominant narratives surrounding this matter that circulate in popular press reportage.
These contend that either the energy landscape has permanently changed and we will never see ‘normal’ energy market structures again or, yes, there is a problem in the global energy markets associated with low prices and imbalanced supply–demand metrics but this is nearing a tipping point that will work to restore a higher priced, balanced market structure.
While both narrative hinge on imbalanced supply-demand metrics the interpretation of this market dynamic is vastly different. In this context, it worth looking closely at the existing global supply ‘glut’. Based on data from the International Energy Agency and the U.S. Energy Information Agency (1, 2), the implied global oversupply is roughly one million barrels per day out of a total world supply of nearly 97 million barrels per day.
This amounts to a modest imbalance that is forecast to decrease into the first quarter 2016. Data indicate that this is not a ‘massive glut’ and that excess supply is being eliminated. Against a diminishing supply excess we observe stable liquid fuels demand in the United States and steadily increasing liquid fuels demand from China despite the country’s economic slowdown (2). Global Crude Oil Supply-Demand Imbalance ‘Glut’ projected to decrease into 2016 Source Data: EIA (2) Through 2020, total world liquid fuels demand is forecast to increase from 91.1 million barrels per day in 2014 to 97.6 million barrels per day by 2020, a 6.7% increase.
From the standpoint of crude oil pricing, we continue to believe that at the mid-$40 per barrel level, profitability is severely impacted. This requires producers to make deep cuts in field exploration and field development spending. For many producers, this sacrifices the ability to make future production increases in order to survive the current price collapse period.
Adding weight to this scenario is that fact that at current demand levels, many world oil fields are past peak production and in decline.
This means that existing major production reserves are depleting at significant rates (3). To ensure continued production sufficient to meet rising world demand requires continual investment in exploration and field development.
We repeat, at $40 per barrel, the world’s producers cannot supply the needed oil to meet future demand growth. The current problem of underinvestment is severe.
An estimated $200 billion in crude oil mega projects has been either deferred or cancelled (4). Based on an average 10-year development time, the global underfunding problem will take years to correct.
The consequence is obvious, convergent factors are conspiring to impede oil production across an intermediate term window during 2017 through 2019 and beyond.
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3 ENERGY SERVICES World Liquid Fuels Demand Growth Steady increase forecast USA and China are world’s two largest consumers Source Data: U.S. EIA (2) In this regard, we note that the problem is particularly evident in the offshore drilling sector where rigs that are coming off contract have no new business and are being idled.
While idled rigs can be put back into the field when it becomes profitable to do so, many are aging and will require replacement in the next decade. This expands the future production problem into future rig buildouts because at an average cost of $600 million per new rig, nobody is willing to build any of the new rigs that will be needed to meet future demand increases.
This situation may be somewhat different in the onshore shale industry where many wells have been drilled but capped awaiting higher prices before being opened for production. While the domestic shale industry has never experienced this type of price collapse we expect if they can survive the price collapse, domestic shale producers can recover more quickly than offshore producers can. What do these factors point toward?
We do not believe that the energy landscape has permanently changed and will never see ‘normal’ energy market structures again but rather that crude oil prices must and will go up in 2016. We anticipate that mid-$60 per barrel prices will be needed to restore production to some semblance of trend. Escalating to this level needs to happen in 2016 to maintain an orderly market structure without the type of abrupt price increase that drove oil to more than $100 per barrel in 2011.
In addition, we believe that merger and acquisition activity will accelerate as the price rises causing significant consolidation that will assist producers in stabilizing prices at profitable levels. Our overarching assessment is that the energy industry is at a tipping point that will be breached in the first half of 2016 sending prices higher and bringing profitability to those firms that survive.