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Here is How You Fix the Oil Market

January 11, 2016 by EconMatters   Comments (0)

By EconMatters

The Mining Industry Approach

I hate always being the smartest person in the room, because I end up doing my job and everyone else`s as well. But here is a giant freebie for all those stupid, clueless oil executives out there in North America. What you are currently doing - or not doing by being effectively a deer stuck in headlights - isn`t working. You cannot take a clue from the miserable strategy employed be the mining industry where they are waiting for each other to go out of business, meanwhile the entire industry as a group is sinking like the Titanic.

And unfortunately the consulting industry doesn`t know jack shit about energy strategy, other than compliance, auditing, taxing, and ancillary ways to cut costs. I admit this strategy is counterintuitive, requires thinking about the oil problem from a slightly different perspective, and requires actual action on oil executives’ behalf, and could even be labeled out of the box. However, it will definitely work, meets the simplistic criterion, i.e., often too complex solutions are doomed to fail, and gets the job done with immediate results that reinforce the fact that this is fixing the oil market.

Flawed Strategy

Here is what is flawed with the current strategy. The current strategy has everyone lowering costs, renegotiating contracts, raising more cash through stock dilution offerings, and extending credit on behalf of the banking industry. And additionally has shorts pounding the oil futures market devaluing your core asset by the day! All the while the big guys wait for the smaller firms to go out of business, with the idea of why take the risk of buying the smaller firms in a risky price environment, especially since their credit ratings could take a hit, they would take on more debt, they can probably get assets cheaper in the future, and this could put their dividend at risk, which is the hallowed holy cow for these Oil executives.

However, why this strategy is flawed just like with the mining industry is that you have a core asset in your reserves, you are losing the asset in the form of lower reserves, and you are cutting long term Cap Ex investment in future reserves at the same time, you thus are lowering the long term value of the company. What these big oil companies are missing is that by letting the price drop so low by not taking action, sure they are harming the smaller companies; but look not only at your stock depreciation, but at your revenues, and factor this into the cost/benefit analysis of your current ‘No Action’ strategy. Compare this “No Action” strategy with what I am going to propose to fix this problem.

Consolidation, Consolidation, Consolidation & Then More Consolidation

The solution is to buy up the smaller players, and I mean start right now. Take production offline since they are not going to voluntarily do it because they want to continue pumping for as long as possible to stay in business regardless of price. Thus by de facto hurting the entire industry with irrational, poor decision making which is counterproductive to the market as a whole.

Sure it will cost the big players more money up front than buying these same assets in bankruptcy court, but bankruptcy court proceedings can drag on, and pumping operations often continue even during bankruptcy court – all of which have costs associated with this strategy that should be factored into the analysis of the bankruptcy option of acquiring assets. Not to mention lower revenues for the next 9 months waiting for this bankruptcy scenario to play out in the market.

Therefore, buy the smaller players now, take the assets offline until the US Domestic production goes down to 5 to 6 million barrels per day, and you get the short money out of the market (probably $15 worth of shorts in the market), return the market price to a more sustainable level, boost revenues at the large oil companies relative to $32 oil, and bolster the health of the overall oil market.

Immediate Positive Market Reaction

This is the strategy, it is actually relatively easy to do, it will have immediate effects and there are definitely just too many oil companies currently in the market. Once the oil inventories come down (which they are only about 100 million barrels of storage over the average necessary for $80 plus oil), and reducing U.S. output to 5 or 6 million barrels per day will definitely bring down the inventories rather quickly. But more immediate is the fact that markets anticipate, thus immediately boosting the core commodity input oil which is responsible for revenue streams.  

Take Advantage to Consolidate While it is easy to justify to Regulators

There is no antitrust reason why these mergers will not be approved as look at how many oil companies, new oil venture startups that have come on line over the last 10 years, and the broad diversity of oil companies in the industry right now. Compare this to 3 cable companies in the entire cable industry, 5 cell phone firms in that industry, the massive consolidation in the drug industry, and the monopolies in the internet advertising and search business. There is plenty of room for consolidation on a massive scale in the oil sector, and this is what needs to happen, and happen right now to turn the oil market around.

Investment Banking Advising Fee Generation

The beauty of this strategy is once the first major deal is announced in the industry, then all the rest of the big players rush to get their dance partners, and the consolidation herd mentality takes full effect, and the price of oil responds in direct proportion to the announced consolidations in the industry long before the fundamentals. Markets are forward looking, and the oil price will move long before the fundamentals. There is even a huge carrot for Wall Street Investment Banks as this strategy garners huge underwriting and advising fees for these consolidation deals. I am giving you the [Investment Banks] the blue print for printing money over the next two years in an overall challenging investment banking environment – get to work advising.

Market Solution OPEC

Think of this as the market solution version of an OPEC. You buy up irrational competitors hurting everyone`s opportunities by producing in a suicidal fashion. You then take this supply offline. And only bring these wells back online when oil inventories are reduced, prices have recovered, demand is sufficient to handle new supply. Consequently, you bring the offline production back to market gradually as the market can handle it, sort of what OPEC is supposed to be doing as a responsible and effective resource manager.

OPEC Would No Longer be the “Only One” Cutting Supply

Furthermore, once this consolidation occurs in US Production it wouldn`t be far from crazy to think that OPEC would then reduce production at least back to the 30 million barrels per day level. And thus they wouldn`t be the only ones cutting production as they have stated numerous times is their main argument for not acting like a responsible cartel and reducing production in an over supplied oil market. You don`t give away your valuable resource by devaluing its market value, ever – this is just bad philosophical theory beyond the economics and fundamentals of the business case.

Rational Market Behavior: De Beers

We don’t have to look far for rational behavior in this area in De Beers. In the Diamond Industry where when there was a bunch of new production coming online out of Africa, bad political and social optics which were devaluing their core commodity resource, and lots of market fragmentation that was hurting the diamond market on the whole. What did they do? They bought up a bunch of this production, and took it offline. The short sighted shale producers who had no clue what they were doing from an economic theory perspective are the irrational players in the oil market. They failed to realize basic financial and economic principles. That the market would not support bringing an additional 4 to 5 million barrels per day of new supply in a global oil market that was not modeled or built around the US Producing that much oil, and not have a dramatic drop in prices.

In any cash flow analysis, what were the shale producers thinking was going to happen to oil prices over the next five years if they were successful? When shale production went online existing oil inventories were already well above their previous five year averages and were trending higher. It seemed shale analysis only factored in the current oil price and not the underlying fundamentals of the existing supply and demand equation in the oil market. They extrapolated their revenue models forward only taking into account the immediate pricing environment in the oil markets.

Responsible Production for Longer Term Price Stability

The Shale producers are the bad guys here, they are the rogue diamond mining operations in Africa bringing on additional supply that disrupts the entire market which threatens not only their own existence, but the more established players in the industry. The solution is simple, buy them up, stop their production, shelve it until oil inventories come down, and boost oil prices to more long term sustainable healthy levels. This makes for responsible long term investing in the oil market which is in everyone`s long term interest for a stable oil price. Bring back new supply from shale operations as the market can bear it based upon actual oil demand in the market grounded upon global growth. As global demand picks up, you bring more shale gradually to meet this new demand.

Shale Oil is Peak Energy Demand Solution

There is a place for shale oil as we have seen OPEC is pumping near max capacity and it looks like it is around 33 million barrels per day. Think of Shale oil as the peak oil supply when demand or inventories are low to bring online to deal and handle peak demand conditions and then go offline as the market dictates like natural gas used to be in the electricity market. Let OPEC and traditional oil supply be the baseline provider of the market, and shale to provide peak demand or as the market dictates.

For example, if global demand picks up and can handle the US pumping 10 million barrels per day, then fine shale can pump away and be part of the baseline supply. However, that is not the case currently, and it makes rational sense to adjust to market dynamics and take shale offline until U.S. Inventories come down, oil prices rise, demand picks up and the overall oil industry is on more stable long term footing. It hurts the big guys just as much as the little guys if you think of the entire cost/benefit analysis of tanking the entire oil market – just look at the mining industry for similar results.

Cut US Production to 6 Million Barrels per day

The only solution is to cut oil production, the US Producers need to buy up the smaller ones, take production offline, so that rational decisions can be made for the market as a whole, because currently it is rational for the hangers on in the shale industry to do the irrational for the overall market. You buy them up, and now it is in your rational best interest to take this production offline, bringing US Production down to 6 million barrels per day. Quit worrying about what OPEC does, get the $15 worth of shorts off your main revenue producing commodity’s back, all the while bolstering up your cratering by the moment revenue numbers.

Control Your Own Destiny

Now the correlation in cutting supply is in your best interest as you the Exxon Mobil`s of the world have added to your shale reserves, boosted quarterly revenue by boosting oil prices, and are rationalizing the market by reducing existing oil inventories- the interests are aligned.

Consolidation, and major consolidation happening right now is the only viable solution for solving the problems of the oil market, now get to work and start negotiations. I expect to hear some acquisitions over this first quarter now that I have given you the blueprint for solving your problems. You can send me a Christmas card as a thank you note, given that you are too unwise to get this on your own, or you would have already started acquiring assets and reducing supply 6 months ago.

I am not a big fan of waiting for things to happen, I like to be proactive and make things happen. In my book this is the preferred strategy course, and the Major Oil Executives need to start making things happen in a proactive fashion right now. As a result, cutting production needs to happen tomorrow, not waiting for the marginal shale producers to fall by the wayside, think how much quarterly revenue you have already lost by employing this sit on your collective asses’ strategy for all of 2015!

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The “Hanging in There” Game for Oil Producers

January 10, 2016 by EconMatters   Comments (0)

By EconMatters

9.2 Million Barrels

The latest EIA report shows the US Production rate steady and holding at the 9.2 million barrels per day. And although there have been some anecdotal reports out of Canada at the start of the year on this recent down leg in oil prices, that this has triggered them to shut down production, that at these prices it makes no sense to continue operations; the rest of the beleaguered producers in the oil space are continuing to operate and hold on throwing more bad money after bad money.

Was the Business Case for $40 oil?

These producers aren`t getting it, these producers didn`t get into the business for $40 oil, these projects were started when the floor for WTI was $90 a barrel, with the extreme lows of a solid 5-year timeframe in the low $80s per barrel for oil. No business plan had a model with 16 months of average oil prices in the $45 barrel range. It might just take oil prices going to $25 a barrel for hands to be forced, so somebody will finally make the call, and pull the plug on some of these operations.

It seems everyone is on the hopium alternative reality trip that oil prices will recover at the back of 2016, and if they can just stay in business until then, then they can survive. But they aren`t getting it, the only way prices move higher by enough magnitude where they could actually survive, is if enough US production goes offline permanently, i.e., people go out of business – namely these same beleaguered producers who didn`t get into the business for $45 oil. Thus the Catch – 22 that none of these firms are getting is that sure prices may rise in the future, but not until you go out of business.

The Hopium Trade

You are the problem, taking US Production from 5 million barrels per day to 9.5 million is what is currently unsupportable in the market. The market will not clear and rationalize until you get out of the business for good. Therefore, the hopium trade is all built on a false premise, yeah if prices rise the second half of the year maybe you can last a little longer. But you’re missing the point, the oil market which supported $95 a barrel prices, the reason you got into the business in the first place, was built upon a 5 or 6 million barrel per day US Production number, and not 9.5 million barrels per day.

Therefore, these beleaguered producers who are trying to just hang in there hoping their competition goes by the wayside, don`t realize that everybody is going by the wayside over the 6 million barrels per day threshold for US Production. At least until global demand pics up considerably with a much stronger industrial growth phase with maybe some future CAP EX Development in underperforming regions like India, Africa, Latin America and China.

OPEC Production Stability

In concert with OPEC at least stabilizing production at 32 million barrels per day going forward for the next 5 years, and not trying to gain market share by increasing production at the current rate of the last two years in this current price war for market share. But OPEC has moved from 30 million to 32 million barrels per day during this price collapse in oil prices, and given the downturn in China`s rebalancing campaign, there is no doubt that US Domestic production needs to go out of business for the foreseeable future. In short, for oil prices to recover, US Production needs to drop to at the very least 6 million barrels per day for the market to rationalize in price.

Bank Regulators

This isn`t rocket science, anybody that recently got into the business taking US Domestic production from 6 million barrels per day to over 9 million barrels per day needs to cease operations for good. This isn`t a have your cake and eat it too moment. Oil prices don`t recover until you go out of business, so you are just delaying the inevitable. I cannot believe how stupid people are in the oil industry, 9.2 million barrels per day of US Production is just too much given the last 16 month`s pricing environment in oil markets. US Production needs to drop fast, stop looking around at your neighbor to stop producing, if you got into the business the last 5 years, prices are not recovering until you leave for good.

Economics Lesson

This is economics 101. Any first year economics student could pull the cord on projects that are unprofitable. Obviously these projects weren`t started with $45 oil in the model, so why are they continuing to operate when a banker, regulator, or business manager can look at the charts above, see the economic correlations between the three charts, and realize what needs to happen to rationalize the model back to the oil market being a balanced market. If you believe in the hang in there just a little longer notion, you are in dire need of an economics intervention. This is what the market will do it will give these producers an economics intervention, and send prices down to $25 a barrel, and speed up the decision making process. In essence, make the decision for you Oil Producers!

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Taiwan Election: How a DPP Win Would Tick Off China

January 9, 2016 by EconMatters   Comments (0)

By EconMatters

Taiwan will elect a new president and parliament on January 16. The current President Ma Ying-jeou, from the Nationalist party (Kuomintang, KMT, led by Chiang kai-shek before his demise in 1975), will complete his second term in May.  During the eight years President Ma has been in power, he has focused on improving relations with China, and achieved the most cordial terms since the end of the Chinese civil war in 1949.  But since Ma cannot run again after serving the maximum of two terms, there are three fresh presidential candidates ducking it out in Taiwan.

Candidate #1:  Tsai Ing-wen (蔡英文), the Chairperson of the Democratic Progressive Party (DPP)

Tsai has a master's degree from Cornell Law, and a PhD in Law from the London School of Economics. So far, she was top of the last opinion poll at 45.2% on Tuesday before a polling blackout begins ahead of the Jan. 16 elections. Tsai previously served as DPP chair from 2008 to 2012T and is no stranger to a presidential campaign.  She was the DPP's presidential candidate in 2012 before losing to Ma Ying-jeou. 

Candidate #2: Eric Chu (朱立倫) from the Nationalist party (KMT)

Chu is the chairman of KMT and the current mayor of New Taipei with a master's degree in Fiance and a PhD in Accounting from New York University. Chu declared his candidacy very late (in October, about 3 month before the election) to replace Hung Hsiu-chu at the last minute.

This unusual debacle came as the KMT party miscalculated thinking it would be better off with a female candidate to run against the more popular female candidate Tsai Ing-wen from the Democratic Progressive Party (DPP). Unfortunately, Hung Hsiu-chu does not have the support base like Tsai Ing-wen and had been unpopular with voters, trailing badly in opinion polls. This last minute switch of candidate looks bad for the KMT party but also increases the odds of a complete loss in the presidential and general election.

Candidate #3: James Soong (宋楚瑜) from the People’s First Party (PFP) 

Soong has a Phd in political science from Georgetown University and is the founder and chairman of the PFP, part of the the KMT-led Pan-Blue Coalition. Soong was a KMT senior official before he left the party to run as an independent in 2000 presidential election.  Many has blamed Soong's departure splitting the votes supporting KMT which resulted in KMT's defeat in the 2000 election.  He ran again in 2004 as Vice President to Lien Chan.  The pair lost narrowly to the Chen Shui-bian from DPP seeking a second term.  Now 73, Soong is at it again dividing the KMT's support and sympathetic base.  Not that it makes much of a difference as both KMT candidates fell miserably in the poll behind the DPP's Tsai Ing-wen. 

DPP's Scandalous Legacy

The liberal DPP had its shot at presidency. Chen Shui-bian, the party's former Chairman, won both the 2000 and 2004 presidential elections.  During his two terms, the popularity of Chen and DPP sharply dropped due to alleged corruption within his administration. Chen was later convicted, along with his wife, on two bribery charges and was sentenced to 19 years in Taipei Prison.  Tsai Ing-wen, the DPP current presidential candidate, is one of the very few highly educated DPP members and has been credited with picking up the pieces restoring DPP's credibility and image after Chen's scandal.

DPP & Taiwan's Legislative Violence 

DPP has a tendency of resorting to violence and many times exhibited traits of a mob group.  Taiwan has mostly DPP to thank for the headlines and Youtube gone viral on "legislative violence" over the past decade.  Below is the infamous picture back in 2006 when the then ruling party DPP deputy Wang Shu-hui chewed up a proposal to halt voting on opening direct transport links with Mainland China.  Here is how Reuters describes the aftermath: 

Wang later spat out the document and tore it up after opposition lawmakers failed to get her to cough it up by pulling her hair. During the melee, another DPP woman legislator, Chuang Ho-tzu, spat at an opposition colleague. 

Taiwan rulling party DPP deputy chews up a porposal to halt voting in Parliarment in 2006

"Violence Is Normal in a Democratic Society"

Tsai Ing-wen was dubbed by Time magazine cover as "the one could lead the Chinese democracy".  However, during a lecture at Harvard University in 2001, when asked about why DPP seems to use violence as a tool to gain political power , Tsai's reply won a round of applause and laughter when she said "Your definition of violence in a democratic society, that seems to be normal when you speak louder." (Youtube here, English starts at 0:49).  

I don't think I need to waste more writing on how DPP has gone above and beyond simply "speaking louder", and Tsai of all people knows it, which I think is why she dodged and made light of the question.  That actually makes me queasy as she seems to endorse handling conflicts in a country bumpking style. 

DPP's liberal view has gained a grassroot massive support base in the youth, farming and working class, which is evidenced by Tsai's overwhelming lead in the poll.  Nevertheless, political views aside, judging from DPP's conflict resolution skill, I personally has much reservation about how DPP could bring more progress and achieve true democracy as many seem to believe. 

Status Quo with China?

DPP has long held the position of pro-independence regarding Taiwan's status and wanted to severed all ties (historic, cultural, economic, etc.) with Mainland China. But this time around, DPP and Tsai is signaling a more pragmatic approach. "We want to maintain the status quo. We want to maintain the current democratic way of life," says Joseph Wu, Tsai's No. 2 and the DPP secretary.

Based on DPP history, I have serious doubt DPP would be contend with "status quo" regarding the cross-Taiwan-Strait relationship with China achieved by the KMT and Ma Ying-jeou. 

Will DPP Cross China's Bottom Line?

Even though Taiwan has its own military, foreign diplomacy and government services, Mainland China sees it as nothing more than a renegade province, and has threatened many times to overtake the island by force. China's stance has softened quite a bit in recent years partly due to President Ma's effort; however, an independent Taiwan remains the last "bottom line" not to be trifled with.

Taiwan president Ma Ying-jeou (left) and China's president Xi Jinping (right) shaking hands on Nov. 7, 2015 in Singapore  

Between the KMT and DPP, China would rather deal with the KMT.  Leaders in China actually have as much to lose as the KMT with an unprecedented win by the liberal DPP.  To show support to the KMT and also send a message to DPP, president Xi Jinping of China met with president Ma Ying-jeou of Taiwan in Singapore in November, 2015 (aka  2015 Xi-Ma Meeting, although Taiwan calls it  Ma-Xi Meeting).  This is the first time the leaders of China and Taiwan met in more than six decades, and Singapore was chosen as a neutral ground.

Bad Economy Keeps Idle Hands Busy

China has its own economic problems and authorities recently had to make a move to stablize currency, buy share, suspend circuit-breaker.  Meanwhile, Taiwan's export-oriented economy is currently in recession sharing the pain from China marred by near-zero growth, stagnant wages and rising prices.  There's also the looming threat of an energy shortage, low domestic investment and overdependence on China, according to a new report by the the US-China Economic and Security Review Commission. 

Tsai is now regarded as a virtual shoe-in to win in the 2016 presidential election while DPP is expected to sweep the majority in the parliarment as well.  Things will get ever more complicated and tricky between China and Taiwan.  The sucess of both administrations depends on how their economic policies could turn things around for the Chinese people in Mainland China and Taiwan.  So perhaps neither would have much time and energy to make good on their previous political rhetoric.

The views and opinions expressed herein are the author's own, and do not necessarily reflect those of EconMatters. © EconMatters All Rights Reserved | Facebook | Twitter | Free Email | Kindle

Investment Banks Share the Same Trading Algo Code

January 8, 2016 by EconMatters   Comments (0)

By EconMatters

Collusion on Wall Street

If Michael Lewis thought Wall Street was rigged with his reveal in Flash Boys he would be stunned to know that he barely scratched the surface of not only the corruption on the street, but the overt collusion behind the scenes at the Investment banks. We used to have notions of ‘proprietary programmed code’ but the Investment Banks learned that they could make their life a lot easier by working together instead of cross purposes. In a nutshell, collusion pays much better than trying to outcompete each other for market profits.

Preprogrammed Market Algos

Thus when you see moves in markets, most of these moves are preprogrammed well in advance, the code is shared amongst the Investment Banks and lucky Hedge Funds who provide good business to the Investment Banks in the form of solid fees and long standing relationships. This is part of the reason financial markets are so highly correlated between all the different and diverging asset classes. Most of the money is made by moving cash around the board from one asset class to another and then back again with financial markets effectively going nowhere. In short volatility for volatility’s sake all revolving around nicely constructed trading algorithms that all the major Investment Banks are privy to, and this ensures that they are always trading on the same side from a short term perspective.

FICC Revenue

You ever wonder why the major Investment Banks rarely have a losing trading day? It is unheard of them ever having a losing trading month, because they aren`t trading against anybody at all, and surely not against another investment bank. They are just putting cash behind the same trading algo that they all share in a collusive fashion to make their daily, weekly, monthly and quarterly FICC nut.

Adaptation to Brave New World

Now not all is lost for the rest of the market participants because when you have collusion on such a grand scale it actually makes trading a lot easier to decipher. There are two ways you can in essence piggyback on this shared code, one is to do it the old fashion way and write down every 5 minute bar for the market that you are watching and participating in for the desired trading timeframe. Let`s say the European open to the European Close where most of the action occurs, or let us say the US open until the US market close each day. Eventually you will notice the exact same recurring patterns in the market that you are trading in relation to the other markets, you will notice the same timestamp significance, and thus you will be discovering the programmed algorithmic code behind the market`s price action.

The other way to accomplish this task is with a computerized analysis program that analyzes the price action and spits out the patterns of the code. The high frequency trading firms don`t run the main show, but they are really good at exploiting and piggybacking on the coattails of the Investment Banks who are running the main show in the financial markets. Part of this means that anytime where there is a vacuum in financial markets they can come in and run parts of the show, usually during either very quiet periods like the holidays or very hectic periods like a full blown panic time in the market when the Investment Banks turn off their dominant trading algorithm.


Therefore, the next time you wonder why a market you are participating in does something contrary to what a normal correlation would suggest it probably has something to do with another market incentivized and prioritized trading algo which was preprogrammed well in advance by the programmers at the large Investment Banks, and your favorite market is just being carried along for the ride.

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Natural Gas Prices Signaling Oil Bottom for Investors

January 8, 2016 by EconMatters   Comments (0)

By EconMatters

Natural Gas Prices Bottomed

Everyone is trying to figure when the oil markets will bottom. Well lost in all the crazy action in markets globally is the nice resurgence off the bottom for natural gas prices. Natural Gas prices have essentially gone from $1.68 per MMBtu to $2.40 per MMBtu rather rapidly in the midst of a mild winter so far. The reason is that all those rig reductions are starting to affect the production of the commodity, less natural gas is coming to market relative to expectations.

The Lag Effect

The lag effect in all those rig declines is starting to show up in the natural gas production numbers, and although the cut in oil rigs hasn`t shown up yet in oil production in a meaningful way, it is just around the corner over the next three months by my calculation. We should start to experience some meaningful U.S. Oil Production cuts by late March and early April which will solidify the fact that the oil market had long sense bottomed in January of this year.

Fri, January 01, 2016
Change from
last week
last year
Oil rigs
Natural gas rigs


Rig numbers by type
Fri, January 01, 2016
Change from
last week
last year
Source: Baker Hughes Inc.


Working gas in underground storage
billion cubic feet (bcf)
South Central
Source: U.S. Energy Information Administration


Market Investment

By the time everyone realizes that the oil market has bottomed it is too late to make the real good, easy money off the bottom, just like in natural gas prices. You have to be willing to step in and take the risk that prices haven`t bottomed. You basically are getting paid to buy when everyone else is selling the market, in essence, blood in the streets is the market analogy. We accurately called the bottom in natural gas prices, we will see how close we are in the oil markets. But we know that any investment right now in the oil market where one can stay in the trade, and not be liquidated for any reason, i.e., bankruptcy risk in insolvent company – is going to make money over a two year time frame. Moreover, the reward will far and above exceed the risk involved, and the performance of said trade will greatly outperform the overall market returns of most other asset alternatives.

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That`s the Bottom in the Oil Market

January 6, 2016 by EconMatters   Comments (0)

By EconMatters

Clear Out Weak Hands in the Market

On Wednesday the oil market sold off to $33.77 on large product`s builds, China`s devaluation of its currency, and a substantial selloff in equities. Sure Oil can go a dollar below this low, but for all intents and purposes this is the bottom in the oil selloff that was predicted for the start of the year. This move down was as predictable a move as there is in financial markets, and we called this down move to start the year with a piece we issued in December.

500k Futures Contracts Traded on Wednesday

It took over 500k in futures contracts just to push oil futures below $34 a barrel on Wednesday, and trust me it wasn`t an easy task for those involved in the pushdown. They now are stuck with being far too short the market at a level they don`t even like being stuck short. At a time when US Production is about to drop off a cliff, and the Middle East is a ticking time bomb that is about to blow up any day now. Look for a major short squeeze in the oil market over the next month as the ramifications of $34 oil play out in the market.

Earning`s Season

This entire move in equities and oil was already preplanned at the beginning of the year. Read our the market is a game piece as this was just about cleaning out the weak hands before the start of the earning`s season to make a whole bunch more money for the first quarter. Shoot the Shanghai Composite Index was up over 2% on the devaluation of the currency, yeah they took it really bad! Please this is the same old crap the players played in August at the end of the third quarter, and voila the market was suddenly fixed right in time for Earning`s season. It’s all a game, learn how the game is played and the profits will follow my friends!

Market Call on Record

This is a short piece just to get our market calling for an essential bottom in the oil market in for the record. You may now go long the oil market in your preferred instrument. Just stay away from companies that are going to go bankrupt, but in buying something like the USO oil futures ETF, you will definitely have a positive expected return over the next six months to a year going forward.

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Comcast, We Have a Problem

January 4, 2016 by EconMatters   Comments (0)

By EconMatters

The bigger news in the cable industry is that the U.S. Justice Department's threat to block the purchase/merger of Comcast (NASDAQ: CMCSA) and Time Warner Cable (NYSE: TWC) did result in Comcast withdrawing its stock-swap proposal to acquire TWC in April, 2015.  However, TWC soon afterwards entered into an agreement to be acquired by Charter Communications in May.

The Charter’s deals totaling $67.1 billion for TWC and Bright House Networks is still under review by Federal Regulators.  If approved, that merger would create the country’s second-largest cable operator, with about 24 million customers in 41 states, after Comcast.

I personally think it is insane that anyone would even entertain the idea that a merger of any cable companies would be a good thing to consumers.  On the surface, the cable industry is not entirely "consolidated".  Nonetheless, the fact is that almost all cable companies operate as de facto monopolies in the United States since frequently only one cable company offers cable service in a given community.  Things have gotten worse as cable also has become one of the very few choices for residential Internet services.

For example, in Houston, the fourth most populous city in the nation, Comcast has a virtual monopoly over residential cable services.  Leveraging its cable TV monopoly, Comcast is also the more popular choice for Internet service within the city (cable modem is supposed to have better speed than phone lines).  With this kind of dominance, would any business strive to "innovate" or "improve the quality of customer service?

Comcast already had several widely reported customer service related scandals in 2014 and 2015 (there's a whole section on Wikipedia).  Since EconMatters is based in Houston, I will share some of my personal experience.

Before Comcast, Houston market was served by TWC.  Then TWC and Comcast did a swap in 2006 so Comcast is now serving Houston cable TV.  Although both have horrible customer service, Comcast is even worse due to the increasing complexity of service tiers and "billable" items requiring much higher skilled employees.

To sum it up, it seems a common cable industry practice to have a very cumbersome and "labor intensive" billing system coupled with poorly trained employees.  EconMatters are made up of  market analysts, so believe it when we say cable bills are hard to understand and reconcile.  I almost think this is intentional so to kills two birds with one stone:

  1. Customers are less likely to call and dispute if they cannot make sense of a bill.  
  2. Poorly trained employees not only serve as good "gatekeepers" to frustrate customers but also less likely to grant 'disadvantageous" (to Comcast) adjustments regardless of the merit.   

Due to various factors (moving, homeowner association change, etc.) at one time or another within the past 12 months, I had to go through a few rounds with Comcast either to correct billing errors or to properly reflect prices agreed upon over the phone.  "Onerous" does not even begin to describe the process.

First, Comcast makes you jump through hoops to get to a live person, and Comcast outsources part of the Customer Call Center to places like Jamaica (there's a serious frustrating communication issue here).  This live customer service person serves as a gatekeeper that can only handle routine issues from a script.  So discussing non-routine issues over the phone is very time-consuming, repetitive and frustrating exercise. 

And get this, Comcast does not give email confirmation of what was agreed upon over the phone.  I encountered a situation where I was triple assured everything was fully documented in my account (Comcast rep even gave me a "confirmation number") and nothing to worry about since everything was noted.  However, I later found out the so-called "documentation" or note consists of one sentence "Customer called to discussed pay service package", so with nothing to go back on, I ended up repeating the same process again.

It takes about two months for any billing adjustments to appear on your account, so by the time you realize the expected adjustment fails to appear (like I said, most of Comcast employees I've encountered are poorly trained), two months would have gone by.  Because Comcast does not give email confirmation or document properly what's agreed on over the phone, you need to repeat the same process of explaining and diligently monitoring your account.  At this stage, most of the customers would have given up.

EconMatters does not like to give up anything without a fight.  In my experience, it took up to six months and very long (up to 1.5 hours) five phone calls escalated to the manager level to resolve one of the more complicated billing issues.  And because of several issues taking place one after the other, it has become almost a full-time job to call, reconcile and monitor monthly bills to ensure everything goes as expected.  

This is where Comcast is penny wise, pound foolish.   Yes, I can see how some brainy act at Comcast think they have a virtual monopoly and outsourcing customer service to Jamaica, saving employees  training costs could be beneficial to the bottom line.  What Comcast fails to see is that providing bad service in a service business means the days of the current business model are numbered.  Brick and mortar companies such as Fidelity, Discover Card (NYSE: DFS), CitiCorp (NYSE: C), and TriEagle Energy are able to move with the latest consumer trend without sacrificing customer service.  These companies understand customers should be the most important part of their business and a wide spread negative consumer response will be like a tsunami crushing the entire industry.

One thing for certain is that the core cable part of Comcast business is facing increasing downward pressure.  It is no accident that 2015 is The year Wall Street Discovered Cord-Cutting.  There's a growing number of Americans either migrate to cheaper packages with fewer channel, watch shows via online services like Netflix (Nasdaq: NFLX), or drop cable altogether. This new cord-cutting consumer trend is killing the business model of an entire industry from cable providers to program producers.  Disney (NYSE: DIS) sparked a panic sale of media stocks in August after revealing its ESPN sports network had lost subscribers and cutting its cable-TV outlook.

For 2015, Comcast stock seems to have held up better than some other media stocks.  However, this is mostly due to Comcast's entertainment properties like Universal Pictures that had a banner year with three films -- Minions, Furious 7, and Jurassic World -- exceeding $1 billion in global box office. In addition, the company experienced record attendance at its theme parks.  That being said, movie and theme park business is quite cyclical, and it's unrealistic to expect Universal and theme parks to come through for Comcast year after year as they did in 2015.

Comcast only acquired Universal NBC in 2006, and most likely retain the legacy operation model and talents.  It is likely, or even already happening, that Comcast brings its failing cable operation model into the entertainment part of the business.  Bad management believing in bad business model will take down any company regardless how lucrative it is going. 

I think the only part of Comcast business that may have some customer-retention power is in the Internet Service.  But companies like Google already saw that void and started its Google Fiber business.  With consumers moving towards cord-cutting, and the line expansion like Google Fiber and other players, it is only a matter of time the entire cable industry could become obsolete real quick.                          

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Technical Analysis of the Oil Market

January 1, 2016 by EconMatters   Comments (0)

By EconMatters

Negative 2015

The oil futures market was down around 30% in 2015 depending upon which contract you look at, and provided some nice trading setups both from the long and short side this past year. 2015 was characterized by starting the year off with new money coming into the market from the short side trying to push prices lower in order to establish a bottom before running them up into the heart of the winter heating season, and the subsequent summer driving season.

Oil prices peaked in early May with straight selling into late August as the front-running the end of the summer driving season reached an exhaustion phase, and the big 6 days of short covering/squeeze closed out the month of August in the commodity. After a six dollar retracement traders put in a near term double top for the second half of the year on middle east tensions revolving around the conflict in Syria before getting smashed into year-end establishing a new low on building inventories, mild weather, and shorts pressing their positions.

2016 Market Outlook

Therefore, what do the charts tell us about the market for 2016? Where are the key technical levels in the commodity? And what represents a trading opportunity in the space? On a very short term basis we have been stuck between $36 and $38 for the bulk of the trading the last two weeks of the year with nobody wanting to initiate substantial new positions into year-end.

The obvious short term trade here is to play this breakout as new money will come into the oil market at the beginning of the year. The question is just whether the new money is going to come from the short side or the long side? The last several years the beginning of the year has consisted of an early slam down to clear out the weak hands and then make some money taking it higher, a common trading technique. But one doesn`t need to guess with such a tight trading range, the market will let the trader know real quick which side this new money coming into the market is on.

February Futures Contract

Therefore, in looking at the February Futures contract a break above $38.30 should be bought with a protective stop at $37 or $38 depending upon your trading style. And conversely a break below $36.22 should be sold with a protective stop around $37 or $38, pick an exact point by dialing in on your trading chart where you determine the trade becomes invalidated against your position. Then see if a direction gains some traction as we may just bounce around here a bit being at such low levels between support and resistance. This is why I would move my stop up aggressively to protect profits and or trade around a core position where I want to take a longer term swing trade. Keep abreast of any fundamental changes like 10 million weekly inventory builds, or large drops in US Production as potential catalysts for a sustained trend one way or the other in 2016.

Overhead Resistance Levels

On the upside the next level of overhead resistance is $42 a barrel in the February contract. A break above $42 means that the $46 a barrel level is in play, and keep abreast of a short squeeze, as if we break $46 with conviction the $50 price can be hit at the drop of a hat. If you don`t believe me just refer back to last August`s short covering rally. There is solid overhead resistance at $52 a barrel, and there would have to be some catalyst at work to bust through this level early in the first quarter of 2016. Like US Production dropping to 8.7 million barrels per day from roughly 9.2 million barrels per day. It doesn`t matter so much about current oil inventories as markets are anticipatory in nature.

The binary nature about markets should be realized here as a break above $52 probably means we are going to $60 a barrel as money is either coming into the market from the long side or not, there is no in-between, only shorts to be crushed trying to step in the way of these money flows, which only exacerbates and accelerates the move to the $60 level.

It doesn`t matter what some analyst thinks the fundamentals say regarding what is a fair value for the price of oil, it doesn`t matter what makes sense at the end of the day over the longer term. What matters is that in actuality it takes very little to move the price of oil from $38 to $60 a barrel, especially given the current directional short bias in the commodity in what has and is traditionally a long oriented market. Once money starts coming into the market from the long side all bets are off regarding ‘reasonable’ value-oriented price targets.

Something has definitely changed in the oil market if we break above the $62-$64 trading area as that is essentially the line in the sand between the old oil market and the new lower for longer oil market of 2015. We are a long way from worrying about those prices right now so I will stop there with discussing overhead resistance areas of note.

Downside Support Levels

Now to the downside, the dark Goldman Sachs and many others on the street doomsday scenario for oil prices. If we break $36 a barrel to the downside in a retest of the around $35 on the February contract lows, $35.35 to be exact - we went into the $34s on the front month futures contract at the time. Then just let it ride if you are in this trade to the downside, moving your protective stop up at definite trade invalidation levels of resistance on each leg lower down in the commodity. There is the $32 and change to $33 level that occurred during the 2007/08 financial crisis lows which we will call the $33.20 price on the February contract. But a close below $33 a barrel will be interesting to see if and when buyers step in? Can we make a run into the high 20`s? Maybe $29 or $28.85 a barrel? I would think that there would be other catalysts in the financial markets like a combination of drivers to not have buyers step in at these levels.

The only way we should go substantially below $28 a barrel is if there is a major China growth scare, a Credit Event causing risk off in all asset classes, and an Equities Selloff where traders just step aside from the market to let prices clear before deciding it really isn`t the end of the world. Maybe a short term Inventory Storage Event could also cause this magnitude of a downside price break below $28 a barrel.

In actuality if oil is smashed to $20 a barrel this probably is a bullish driver for oil prices going forward, as the losses created by this price disruption would mean much oil production and businesses are permanently offline, and out of business for good. Just because oil prices recover, if a business loses its shirt at $20 a barrel, they aren`t coming back to the market anytime soon. They are effectively financed out of the market by more prudent lenders and investors who have a higher lending threshold or standard going forward because they price the $20 oil scenario into any new model going forward for project evaluation and approval.

Follow the Price Action

And of course, when buying oil off the bottom if a new low is established just follow the price action levels, as they will tell you where the direction has changed, and the low is in fact in place for the oil market for 2016.

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Technical Analysis of the Corn Market

December 31, 2015 by EconMatters   Comments (0)

By EconMatters

Corn Market 2015

I have been watching corn prices lately as they are getting low enough to at least pique my interest into looking at a market that usually just gets bypassed with the rest of my agricultural futures prices tab on my trading platform, more out of habit than having anything in particular against the agricultural markets. The March 2016 Futures contract was down about 16% in 2015 along with most of the commodity space on fund outflows, a weak China, and a strong dollar.

Economics of Agricultural Space

This goes against my intuition regarding long-term supply and demand drivers in the global economy. For example, the world population continues to grow, good farming land with proper soil management is a finite resource, and the world is going to need more food in the future. The Corn market looks like a buy over a five year time frame, unless the Midwest lobby loses big in Washington politics and the corn ethanol production market completely goes by the wayside, this probably would result in a drop before another spike as farmers readjust crop sizes to the new economics. But all else being equal I expect the corn market to go on another one of those massive runs higher sometime over the next five years given its recent history from a trading standpoint, and the broader economic drivers for the commodity over time.

Market Timing

But from a trading standpoint what I really want to know is are there any good trading setups because although I try to eat relatively healthy and exercise when I can for practical purposes I could be dead in five years. Maybe Warren Buffet can wait for 5 years for his investments to pay off but most of the street gets paid on an annual and quarterly basis. If a fund has a bad quarter, redemptions go up, and their assets under management go down. This is not good for fund managers as their compensation goes down from a lower management fee base, and obviously if they are having a bad quarter their percentage of profits number is headed in the wrong direction.

The bottom line is that most people have to get the timing right in an investment or trade, at least within the same calendar year. So what do the technical look like in the corn market? The theory is that everything that is going on with the fundamentals of the corn market are reflected in the charts, along with the technical and psychological drivers of the market. The idea is that the technicals will tell me when to get back into the corn market at least for a nice trading setup, they will tell me when something regarding market sentiment is changing at least from a fund flows perspective.


Therefore in looking at the two year futures chart I have picked out the 410.00 cents per bushel area where I start to get interested in the corn market. We are currently at the 358.00 cents per bushel area, and I am not looking for a short in this market. However, from a trader`s perspective there is a two year trend line going from the 510.00 cents per bushel area to the current price area of 358.00 cents per bushel area. If price breaks above this trend line around 370.00 cents per bushel, this could be a good buy stop entry with a relatively tight protective stop in the area of 364.00 cents per bushel to 357.00 cents per bushel depending upon your trading style.

Overhead Resistance

The first target on this entry would be a break of the 396.60 cents per bushel high in late October of this year on the six month chart to test overhead resistance at the 410.00 cents per bushel high last hit October 7th of 2015. The Reward to Risk profile is 6.67 Units of Reward to 1 Units of Risk with the tighter stop around 364.00 cents per bushel , and 3 to 1 with the wider protective stop at 357.00 cents per bushel. I would watch price very carefully because what I am in this trade for is a break of the 410.00 cents per bushel overhead resistance area with the next profit target around 464.00 cents per bushel last established in July of 2015.

As long as you have a winning trade, why not let the market tell you when it is done going in your direction? Has the trade broken any key technical levels of support? These markets are a lot bigger than one would think, and once the fund flows start coming into a market, a trader or investor needs to take this into account, as often the results are binary. For example the market is either going to go your direction, and if it does expand your profit target more because it is going to move a good way on changing capital structures. Or alternatively the trade is a non-starter, and a tight stop will tell you pretty early that your timing is just not right on the trade for a relatively cheap price.

The next overhead resistance level in the corn market is around 510.00 cents per bushel last established in late April of 2014. The five year high in the corn market was established on August 6th 2012 at around 845.00 cents per bushel. The 10-Year Corn Futures chart basically has a double top on it around the 800.00 cents per bushel area, which give or take the short squeeze effect, is good enough for a price barometer where the market starts to entertain that it is overvalued, and lots of shorts and hedges enter the market for good.

Long Term Support

The fifteen year chart has the 200.00 to 250.00 cents per bushel area as longer term support for those wanting to look at the trade on the short side. With the 25-Year chart reinforcing the idea that the 200.00 cents per bushel area represents solid long term support for corn futures. The problem is that a lot of this history is before modern electronic markets really took off and became global marketplaces for investors. And when inflation effects are factored into the equation, on an inflation adjusted basis corn is probably at or near a 25 year low right now at the current price.

The Patient Investor

And for those investors with a five year time frame and no pressure from outside investors, given the nice bull moves of the last 10 years in the corn market, it makes sense to try and anticipate the next large move in this agricultural staple. Therefore, if you want to get into the corn market now and wait for the move, one needs an instrument or asset where they can stay in the trade and not be liquidated, depreciated beyond reasonable time decay, and get the best full value of the move if it transpires.

Corn Futures Curve

For example, the December 2019 Corn Futures contract only has 9 contracts of open interest at the close today with a prior close at 417.40 cents per bushel with the last actual trading volume today in the December 2018 futures contract with a price of 410.00 cents per bushel with a lofty 3 contracts trading hands. Most of the open interest in the corn futures market only goes out 2 years to the December 2017 futures contract which is trading around the 400.00 cents per bushel area at the close of this year.

For those who don`t like to roll over futures contracts the December 2017 contract probably isn`t the worst way to play it since most investors may not want to get into the complexities of buying up farm land, and are not going to have access to the swaps market for practical purposes. Thus, we will see if 2016 brings better fortune for the corn market than the past 3 years where corn futures are down nearly 50% over this timeframe.

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Technical Analysis of the Lumber Market

December 31, 2015 by EconMatters   Comments (0)

By EconMatters

Housing Demand Thesis

The last two years rents have been rising primarily due to supply and demand issues. There hasn`t been enough multifamily housing to keep up with the demand, and as the employment levels go up and more millennials move out of their parent`s house, I expect the housing market to continue to be on the slow but steady upswing of the last several years for 2016.

I think more and more single family homes will have to be built to keep up with the demand as renters for the last couple of years start to want to build equity in real estate versus throwing the money away on rent. And I expect the trend of more multifamily housing projects being built to continue for 2016 as well due to the escalating rents as the population growth has outstripped the conservative building strategies following the housing bubble that led to the financial crash in 2007/08. The builders were just very cautious and financing was subdued to say the least and now there is a lot of catchup going on in the housing sector.

Technical History for 2015

I thought I would take a look at the lumber market as my spider sense tells me that lumber could possibly be a buy here for 2016 and beyond. The March Lumber futures contract is trading at around $255 per mbf on Wednesday as the calendar year of 2015 comes to a close. The Lumber contract reached a low of $226 per mbf in September of 2015 when the rest of the financial market was looking vulnerable during the end of the third quarter selling that picked up steam on China Recession concerns. The Lumber market has been putting in higher lows into year end, and it seems to be setting up nicely for a move higher into 2016.

2016 Technical Levels to Watch

The play is relatively straight forward as there is 4 month overhead resistance at $270 per mbf on the charts and a breakout above this level with a buy stop letting buyers take you into the trade is one way to play this projected rise in lumber prices for 2016. I would put my protective stop at $255 per mbf if I entered on the breakout of the $270 resistance level. My initial target would be $310 per mbf for a 2.67:1 Reward/Risk profile for the trade. I would judge the price action from there and the overall market sentiment with the idea of letting it ride from this initial profit target.

The next area on the two year chart for a profit target to the upside is the $340-$360 per mbf level. If you like to take half off and let the other half ride on the trade then this would be one way to play it by taking half off at the first profit level around $310 per mbf and then taking the second half off at $360 per mbf. One could also break the trade into 3 sections by having 1/3 of the trade riding for a breakout of the $360 level.

Just for perspective there is 15 year resistance around the $400 per mbf area; but one thing about financial markets is that a trader wants to see how the contract reacts to price at key action levels. Therefore it would be nice to pocket a nice chunk of profits moving your protective stop up in a conservative manner and letting the last 1/3 of the trade prove to you that the trade is done to the upside. If we ever broke $450 per mbf the charts say that $500 per mbf is definitely possible, as back in March 1993 the Lumber futures went as high as $493.50 per mbf.

In Summary

Of course there are a myriad of different trading strategies in how to best take advantage of this possible setup in the Lumber market from an entry and exiting standpoint. I just like to add some trading color to the analysis so that readers can better understand the context of the key technical levels to watch for in the Lumber Futures Market for 2016.  

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