The Lowdown │ Global markets to 10 October 2022

The Lowdown Global markets to 10 October 2022

Tags
Inflation
Trump
Energy
Kwasi Kwarteng
Published
Published October 11, 2022

Oil: production cuts and rising prices

Although the markets had been nudging higher in recent trading sessions, the OPEC+ alliance’s decision to cut daily crude oil production by 2 million barrels is likely to push both oil and gas prices higher. This will create further discomfort for consumers at the pumps and drive home-heating costs up.
In its statement announcing the cuts, the OPEC+ alliance cited the “uncertainty that surrounds the global economic and oil market outlook” as the reasoning behind its decision. This is the largest cut in production since the start of the pandemic.
Needless to say, it is in the cartel’s best interests – as well as those of its allies – to keep oil prices high. This is also a win for Putin at a time when the West is struggling against a backdrop of mounting inflationary pressures and rising household costs. Admittedly, crude oil is still below its recent peak of US$125 a barrel. But a demand-over-supply squeeze over the coming winter months could see that upper price tested.
During his presidency, Trump bolstered the US alliance with Saudi Arabia, other Gulf Arab states, and Israel. Biden, on the other hand, has effected shifts in the former president’s foreign policy. Trump also suspected that Iran might have been undermining the interests of the West by not honouring its undertaking to prevent the development of nuclear weapons.
Back in 2019, Trump swept aside objections from Congress to sell over US$8 billion worth of weapons to Saudi Arabia, the United Arab Emirates and Jordan in a bid to strengthen its presence in the region. Biden has opted for a different path, committing to rejoin the faltering Iranian agreement. At the same time, he has been more vocal on the subject of Saudi Arabia’s human rights record – which could be a source of new tensions among his Gulf allies at a time when the world needs more oil.
As things currently stand, three of the world's major oil suppliers – Iran, Russia and Venezuela – are being sanctioned by the US and other countries. Meanwhile, they are helping one another to maintain a presence in non-Western energy markets. China and India account for a significant share of Russia’s seaborne oil exports. Indeed, Russia is now China’s biggest supplier of oil, having overtaken Saudi Arabia in 2022.

Three-hour power cuts this winter?

In the UK, the National Grid has warned of power outages of up to three hours a day if gas supplies run low over the winter months. This remains a worst-case scenario. But many commentators have indicated that disruptions should not be ruled out.
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Looking towards the future, the UK will be issuing new licenses to several exploration companies to drill for oil and gas in the North Sea. This flies in the face of the global strategy to wind down fossil fuel projects. But according to newly appointed Business Secretary Jacob Rees-Mogg, this new exploration will secure the UK's energy supply and provide skilled jobs in the sector.
Other advocates also argue that the change in direction is not actually incompatible with the government’s legal commitment to reach net zero by 2050. North Sea fossil fuel, they say, will replace imported fuel, meaning a lower carbon footprint generated by production and transportation operations.

The US remains determined to quash inflation

In the US, any hopes of the Federal Reserve Bank pivoting away from its monetary tightening policy were quashed as senior officials reaffirmed their determination to bring the rate of inflation down. This suggests that the Fed will continue hiking rates throughout the rest of this year and well into 2023.
Indeed, the US Treasury bond market is already predicting further interest rate hikes – given the current inverted yield curve between 2-year and 10-year US Treasuries. As for global investors, an attractive yield of over 4% can be secured at the short end of the bond market.
Nevertheless, US economic data is proving relatively resilient. The labour market still seems healthy and there are indications that inflation may have peaked. But much will depend on core inflation – given the rise in other areas of the inflationary basket outside of energy.
Recessions in Europe and the UK, meanwhile, now appear more imminent. As inflation spirals and pressure on the euro mounts, it looks as though a severe energy crisis is in the offing for most of Europe. This is likely to result in the European Central Bank raising interest rates even further – despite the deteriorating economic outlook.

Turmoil rattles the UK economy

In the UK, the Bank of England has had to step in and support our gilt market in the wake of an overwhelmingly negative response to Kwasi Kwarteng’s mini-budget and his U-turn on the proposed higher rate personal tax cut. It has been something of a baptism of fire for the new incumbents of both number ten and number eleven Downing Street. Their actions one Friday afternoon wiped off at least £300 billion from the combined value of the nation’s stock and bond markets.
This quickly led to several agencies lowering the UK’s credit outlook, citing the “largest fiscal stimulus without compensatory measures or an independent evaluation of the macroeconomic and public finances” as the reason for their actions.
 
SOURCE: Financial Times. How Kwasi Kwarteng’s mini-budget broke the UK bond market.
SOURCE: Financial Times. How Kwasi Kwarteng’s mini-budget broke the UK bond market.
We are now nearly two weeks into October – a month associated with trepidation and apprehension, given its historical associations with stock market upheavals.
After all, this is the month that brought us the crashes of 1929, 1987 and more recently 2008. In actual fact, August and September are worse as far as Wall Street is concerned. November and December, on the other hand, tend to be regarded as two of the best months of the year for the markets.

Fortune favours the bold

The last quarter, and this year as a whole, has been something of an “annus horribilis” for global investors. But the truth is that we have seen a “great reset” regarding valuations and stock markets in nearly all financial assets.
This means that – as was the case in previous financial crashes – there are some exciting opportunities to be seized. Obviously, those “unknown unknowns” are not set to go away any time soon. But having the courage to invest in these times of uncertainty will be rewarding for those brave enough to act.
Don’t Dread the Drawdown. The historical data below demonstrates that those who stay on the course have been rewarded.
 
SOURCE: Bloomberg and Goldman Sachs Asset Management. As of October 6, 2022.
SOURCE: Bloomberg and Goldman Sachs Asset Management. As of October 6, 2022.