Quote of the Day.
Time is irrevocable.
As I have been suggesting for the last month or so, the US politicians finally passed a bill that would avoid the fiscal cliff from triggering. The bill is far from a good one as many of the main issues have been pushed down the road. The core of this particular bill is focused on taxes while moving the discussion of sending cuts down the road for two months. Obama and the Democrats got mostly what they wanted... more taxes especially on the wealthy while the Republicans at least ended the day with 84% of all of the Bush era tax cuts being made permanent so this fight does not have to happen again. This is no longer the economy of Bush or the Republicans or anyone else the President can blame. With this bill Obama and the Democrats now own the economy and will have to take responsibility as to how the tax cuts and lack of spending cuts play out going forward.
For the moment most risk asset markets are continuing the rally that began on Monday but values are still below where they were when the fiscal cliff selling began to hit the market. Some level of uncertainty has been removed from the market in that investors and traders now know what the taxing rules are for the moment. However, the broader and in my view bigger issue of how to attack the every growing US deficit is yet to be fought and thus a level of uncertainty will still be clouding the US economic recovery until some form of plan emerges in a couple of months. There are many views as to what impact the tax hikes will have on the economy and only time will tell which side of this discussion is right. The fact that money is being shifted from the high earners (and spenders) to the Federal government does suggest to me that a level of productive spending will be eliminated and as such there could be a negative impact on US economic growth. That said the magnitude of any negative impact is very difficult to gauge at this point in time.
Finally investors and traders will start to shift their focus to a much broader and global array of issues, events and data points as to forming their market sentiment going forward. For the next month or so most risk asset markets are likely to be once again driven by the more normal price and value drivers which include the state of the European debt situation, global economic growth... in particular China and the rest of the emerging markets as well as the evolving geopolitical situation in the greater Middle East. The next day or so oil and most risk asset markets will be impacted by traders and investors adjusting their books as a result of the US fiscal cliff deal with the normal value drivers quickly increasing in importance.
Heading into 2013 the US economy may be seeing economic growth increasing at a faster pace than it has been moving at for the last year or so. If the new fiscal cliff deal does not have a major negative impact on the US economy then growth should slowly continue to improve. In Europe many issues need to be resolved to mitigate the growing recession in that region of the world. The EU economy has been under an austerity strategy for the last several years as it fights it debt problems and that austerity strategy is showing its effects over the last few quarters. In the short term all eyes will be focused on the ECB and how they may react to the sluggish and underperforming European economy.
In the emerging country world, China seems to be finally turning the corner and starting to show signs of growing at a faster pace than it had for 2012. Over the weekend the latest energy sensitive Purchasing Managers Index came in at 50.6 for December... which is now in the expansion mode once again. The macroeconomic data out of China over the last month or so has shown a steady improvement suggesting that the main economic and oil demand growth engine of the world may be ready to once again lead the global economy out of its malaise.
2012 was another tumultuous year for most markets with one word best describing the whole year... uncertainty. Uncertainty continued to cloud all corners of the investing and trading world as a result of geopolitical and economic events that are still impacting the markets as we enter 2013. From a geopolitical perspective the Iranian nuclear standoff continues while the civil war in Syria rages on. On the other hand the evolving sovereign debt issues in the EU region as well as the US fiscal cliff continued to impact most risk asset classes especially the global equity markets. 2012 ended with most markets still trading on a macro basis or as many like to refer to as the risk on and risk off trading environment. Most all risk asset markets (both equities and commodities) can best be categorized as short term trading markets in 2012 rather than investment markets. Volatility was high and trends changed with little or no warning many times during the course of the year.
We are starting 2013 with many of the same major issues as we ended 2012 with. Following is my list of the main issues, events or better said potential price/value drivers for 2013. They are not in any specific order of importance.
- Iran is a wildcard insofar as its nuclear program is concerned as well as what is real and what is bluster when it comes to dealing with the west. The US added several new sanctions over the last month or so. There was talk that Iran and the West are working toward a new round of meetings with nothing concrete yet on the table. There are many other geopolitical hot spots that could impact the flow of oil...Syria and Nigeria to name a few but Iran is the main hotspot at the moment.
- Europe will continue to be the number one economic hotspot in the world. The sovereign debt issues in the EU has been and will continue to have a major impact on risk asset values in 2013. The European leadership has been employing a strategy of pushing the issues as far into the future as possible with the hope that eventually the EU economy will recover enough to solve the looming debt problems. Until Europe moves into the background all of the 30 second news snippets coming from the region will continue to have an impact on equity and commodity prices. I still believe there will be a point in time in 2013 when Europe does in fact move to the background. I will be talking more about Europe in the coming days and weeks.
- Now that the US Presidential election is over and the fiscal cliff deal has been done the markets will be looking to see how the US economy grows going forward. The US economy has been making progress and very slowly starting to see a pick up in the rate of the recovery. However, it is not a slam dunk that the US economy is ready to catapult higher especially with the extremely large unemployment and housing issues creating a major cloud of uncertainty over the US economy. Friday we get yet another snapshot of the nonfarm payroll numbers with the consensus looking for 160,000 new jobs created with the unemployment rate coming in at 7.7%. An improvement but still not enough job creation to solve the huge overhang of unemployed Americans. Overall I think the US economy will continue to pick up the pace in 2013 if the tax increases do not have a major negative impact on the economy.
- China is the leader of the emerging market world as well as the main economic and commodity growth engine of the global economy. China is coming off of a tough 2012 which saw its economy not quickly responding to a more accommodative monetary policy that was in place for most of the year as well as a major reduction in sales of goods to Europe and to a lesser extend to the US... their main export markets. China has seen its manufacturing sector moving back above the expansion threshold with signs that the new government is clearly ready to keep the monetary policy as accommodative. All eyes will be on every macroeconomic data point coming out of China to see if in fact the new government is going to be able to pick up the pace of growth. How the Chinese economy goes in 2013 will determine how oil demand growth goes in 2013. China is the leader of the pack insofar as global oil demand growth is concerned. I am expecting that China will grow at a faster pace than in 2012 and thus I am expecting an increase in oil demand growth also.
The above are the main macros that will continue to determine where risk asset markets go in 2013 as well as where oil prices go. There are many others but I view the above as the main drivers. I think we are heading into a period where there may finally be more upside risk on oil prices with a limited downside move (geopolitics will still serve as the floor in oil prices). I am expecting oil prices to continue to trade in a $90 to $100/bbl (basis WTI) trading range for the first part of 2013 and remain very linked to the direction of the euro and US dollar. Any geopolitical event that results in an impact on supply could easily result in WTI moving back above the $100/bbl mark and remain there for a sustained period of time.
The above are just a few of the macro views I currently have with many more to come in futures issues of the newsletter. Obviously predictions are exactly what they are and they are not static... rather they are very dynamic and my views will change as market conditions warrant.
Unlike 2011 last year proved to be mostly a positive year for most risk asset classes as shown in the EMI Investment Leader Board below. The Yen/USD switch was the biggest loser on the board with Wheat showing the largest percentage gain for 2012 as a result of the linger drought in the farm belt in the US. For all of the talk of the US dollar completely falling out of bed as a result of all of the money printing by the US Fed the US dollar was only marginally lower for the year while it remains the world's reserve currency and safe haven.
Gold ended the year in positive territory for the twelfth year in a row gaining 7.03%. Silver gained 8.44%. Copper was up by 6.44%. Copper is an industrial metal that is highly dependent on the Chinese economy (to a lesser extent other emerging market economies). China and the rest of the emerging market economies grew modestly in 2012 and so did copper consumption.
What a difference a year makes ...a drought and Wheat, Soybeans and Corn end the year in positive territory. Wheat was up by 19.19% while Soybeans gained 18.38%.
In the energy sector oil was able to hold onto positive gains across the board for the with the exception of WTI with RBOB leading the complex higher for the year. In 2012 oil fundamentals played a bit of a supporting role in firming prices. Since the beginning of the financial crisis back in 2008 oil supply, demand and inventory balances have continued to move toward a more normal pre-recession level.
On the other end of the energy complex...natural gas has finally put in a positive year after declining for four years in a row. Nat Gas supply has continued to be been robust in 2012 with no sign that there will be any supply issues in the medium to even longer term perspective especially with the current winter weather still not consistently normal. Nat Gas prices increased by 12.11% in 2012 after falling about 31% in 2011 as a result of the continued success of exploration and producing...especially in the area of shale gas development. Supply has continued to outpace demand and will likely continue to do so for the foreseeable future. Upside price movements in Nat Gas will continue to be limited by the more than adequate supply and inventory situation and prices will remain mostly weather driven for at least the next several months. Nat Gas is starting 2013 above $3/mmbtu however, total NG inventories significantly above the five year average for this time of the year. If the winter does not arrive pretty soon (and remain in place) Nat Gas could be testing the $3/mmbtu support level.
On the equity front 2012 a positive year with most bourses around the world adding value in spite of all of the uncertainty. As shown in the EMI Global Equity Index table below the Index ended the year with a gain of 11.5% as compared to the 15.2% loss in 2011. China held the bottom spot of bourses in the Index with a small gain. Canada was a close second also ending the year with a small gain. Germany stay on top throughout 2012. The US Dow and the Nasdaq both ended the year in positive territory as the US economy was the best performing developed world economy (at the moment)... albeit a very slowly growing economy. All in all it turned out to be a positive year for equities which were a supportive price driver for energy prices and the broader commodity complex.
This week the EIA will release its weekly oil inventory snapshot one day late on Friday, Jan 4th at 11 AM EST due to the New Years Day holiday on Tuesday. The API inventory report will also be released one day late on Thursday afternoon, Jan 3rd. Finally the EIA Nat Gas inventory report will be released also one day late on Friday, Jan 4th at 10:30 AM EST.
I am maintaining my view at neutral and my bias at cautiously bullish as the current fundamentals are still biased to the bearish but the forward view of 2013 fundamentals are starting to look more supportive. In addition the technicals are indicating that the selling momentum has eased as the market is has now moved into a higher level trading range over the last two days.
There is still no shortage of oil anyplace in the world and a portion of the risk premium from the evolving geopolitics of the Middle East is continuing to slowly recede from the price of oil. But as discussed above the market seems to be paying less attention to the nearby fundamentals. In the short term the price of oil is still very susceptible to sudden price moves based the 30 second news snippets. This is still an event driven market for oil at the moment.
I am maintaining my Nat Gas view at neutral and bias at cautiously bearish side as the fundamentals and technicals are still suggesting that the market may be heading lower for the short term. I anticipate that the market is now positioned to remain in the new lower trading range... as the latest temperature forecast is once again less supportive. As I have been discussing for weeks the direction of Nat Gas prices are primarily dependent on the actual and forecasted weather pattern now that we are in the heart of the winter heating season and currently those forecasts are back to switching to a more neutral to bearish scenario.
Markets are mostly higher heading into the US trading session as shown in the following table.
Dominick A. Chirichella