Month: April 2017

Authored by Irina Slav via OilPrice.com,

Iraq has plans to boost its crude oil production by 600,000 bpd to 5 million bpd by the end of this year, regardless of its participation in OPEC’s production cut deal. Iraq is the cartel’s second-biggest exporter of crude and has been the most disinclined of all parties to the agreement since its inception, with a lot of observers expecting it to be the first one to cheat.

Iraq’s first problem is that as much as 95 percent of its budget revenues come from crude oil. There are no viable alternatives in sight for revenues at the moment. The second problem that the country has to contend with is its war with Islamic State, which makes these revenues more important than ever.

Amid the final push against IS in Mosul, Iraq is working hard to ensure the sustainable growth of its oil and gas industry—OPEC deal or no OPEC deal. Three months ago, Oil Minister Jabar al-Luaibi said that Baghdad is planning to build five new refineries on an investment basis, in addition to fixing and expanding existing refineries that were damaged in the war with IS.

While Al-Luaibi has repeatedly assured media – and indirectly, investors – that Iraq will stick to its OPEC commitment, Iraq is doing whatever it can to boost its returns from its only significant natural resource.

As part of these efforts, the government recently started a review of the contracts it has with foreign oil companies operating local fields in a bid to better match its interests to those of the operators. Currently, international oil companies in Iraq are working under the so-called technical service contracts, which a few years ago, forced them to reduce production from some of the country’s biggest fields because Baghdad had no money to pay them for operating the fields.

Baghdad is also cooperating with Tehran to make the most of the oil finds that the two neighbors share. Bilateral relations have been uneven historically but now that both Iraq and Iran are scrambling with their respective problems, a partnership has emerged as the mutually beneficial way to proceed. It is also strengthening its ties with other neighbors and farther countries such as Egypt, European Union members, and the U.S.

A 600,000-bpd production increase would be substantial, but Al-Luaibi did not disclose the source of this increase. Huge fields such as West Qurna, Rumaila, and Majnoon are nowhere near depletion, so Iraq could significantly boost production in these fields.

Then there is one more candidate for additional production: the Kirkuk field in the Kurdistan Autonomous Region. Kirkuk currently produces less than half a million barrels of crude daily, even though its can pump as much as 1 million bpd. The problem – yet another big one for Baghdad – is that the Kurdistan Regional Government is as eager as Baghdad to take full control of the field.

Tensions between the central government and the KRG have been simmering for a while now, and of course, it’s all about the oil, as both sides throw accusations at each other of overstepping its boundaries.

For now, Iraq’s plans to increase production seem to be vague, unless Al-Luaibi and the rest of the government just don’t want to go public with more specific plans. Given the price environment, however, and the growing likelihood that the production cut will be extended, Iraq’s output-boosting efforts have the potential of a major headwind for prices in the second half of the year.

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Moments ago Twitter shares slumped, then rebounded…

… after Ev Williams, co-founder of Twitter, published an article on Medium in which he explained why he – along with apparently everyone else these days – is "selling some twitter shares"

As he explains…  "After a year and a half of no selling, I have filed a new 10b5–1 plan to liquidate a minority of my TWTR over the next year. It actually pains me to be selling at this point, but this sale is all about personal context, not company context….

Here’s the short story: I like to invest a lot in things I care about. For example, I’m the largest LP at Obvious Ventures, which is now on its second fund and has invested in over 35 world-positive companies. In addition, my wife and I have done a fair amount of philanthropic giving and—especially in the last year—upped our political donations significantly ????. These are all efforts to help build a smarter, more sustainable world. I’ve been doing all of them for a while, and I’d like to continue."

In short, for that reason or any other, he prefers cash over TWTR shares here.

His full note is below:

Why I’m selling some Twitter shares 

 

A note for Twitter shareholders and employees

 

If you’re not a Twitter shareholder or employee (or reporter who covers such things), this is exceedingly uninteresting?—?check out the Medium homepage instead. If you are, I wanted to provide some context, in anticipation of potential speculation due to a public filing today.

 

The vast majority of my assets are in the form of Twitter stock, as has been the case since, well, since it was worth much. That will continue to be the case for the foreseeable future. I’m proud to be on the board and optimistic about the future of the company. I’m also really gratified by the recent efforts at Twitter to curb abuse, the upward tick in usage, and recent additions to senior staff, among other things.

 

After a year and a half of no selling, I have filed a new 10b5–1 plan to liquidate a minority of my TWTR over the next year. This plan kicked in on Monday. It actually pains me to be selling at this point, but this sale is all about personal context, not company context.

 

Here’s the short story: I like to invest a lot in things I care about. For example, I’m the largest LP at Obvious Ventures, which is now on its second fund and has invested in over 35 world-positive companies. In addition, my wife and I have done a fair amount of philanthropic giving and—especially in the last year—upped our political donations significantly. These are all efforts to help build a smarter, more sustainable world. I’ve been doing all of them for a while, and I’d like to continue. (In the early days, I also funded Medium, but have not in recent years and don’t have any plans to, thanks to awesome investor/partners.)

 

I’m not a public market investor. And I feel very fortunate to be able to use funds to enable other people to do good things. Thank you for your understanding and thanks, especially, to the employees working to serve the important role Twitter plays in the world today.

It appears the news is less 'positive' after all…

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While most eyes are focused on the longer-end of the curve and the butterfly-rotations in the Treasury complex…

RBC's Mark Orsley points out that there is a substantial repricing going on in the front-end that could bleed into the broader reflation theme.

Arguably the most popular way in rates to play reflation and the thought of a more aggressive Fed has been the EDZ7/EDZ8 steepener (buying Dec ’17 Eurodollars/selling Dec ’18 Eurodollars).  Conventional wisdom was the curve had 2 hikes priced in, the Fed has been saying 3 hikes for 2018 so its 1 hike light and thus a buy (steepener).  Fair enough and I was a believer of this theory as well.   However, Dudley really threw the Eurodollar market for a loop when he:

• talked down the Fed’s urgency to hike
• revealed that the taper of reinvestments represents a hike or two
• showed us that the markets current pricing for terminal rates is pretty fair when he said there is 100-150bps more of hikes (was priced)

As I have been saying in the past couple notes, this caused a recalculation of Fed hike expectations by the Eurodollar market and that caused the bleed lower in the EDZ7/EDZ8 spread.  It may not look like much in the charts but we are talking about a significant move.  From the pre-March FOMC high to now, that curve has fallen from 57bps to 38bps (19bps).  That is an 11 standard deviation move.  For those equity minded, it would be equivalent to S&P’s dropping 150 points (~7%).

Yesterday’s FOMC minutes from the March meeting only exasperated the move in Eurodollars.  The statement that most Fed officials saw reinvestments shift warranted this year was slightly more aggressive in terms of the timing that many in the market expected. Thus when coupled with Dudley comments, the Fed is confirming that tapering is on the way which means there will be 1 or 2 less hikes than we all originally expected.  That flattens the Eurodollar curve and pushes the Eurodollar unwind further. 

So now what?  I think the take away is when you look at the chart of EDZ7/EDZ8; it is the same formation as 10yrs.  While 10yrs are holding its range, Eurodollar spreads are potentially foreshadowing a pending break down in yields.    Essentially, Eurodollar curves are breaking the equivalent level as the all-important 2.31% level in 10yrs which is being watched by everyone in the world.

EDZ7/EDZ8 spread…

Looks familiar doesn’t it? We noted the critical levels on US 10yr rates…

The bottom line is, although getting a slight reprieve this morning, the breakdown in Eurodollar spreads increases the probability of a support break in 10yr yields which is watched by the entire market and has repercussions beyond rates (into financial equity names and credit products to name a few).  If it does break, it will likely lead to a significant round of capitulation in reflation trades.  From there, the story will turn to knock on effects and potential liquidations in other products (ie: book gains in S&P longs against losses in Eurodollars).

The trend line break this week in US 10yr yields to me indicates the froth being taken off the Trump side of the reflation theme.  If the support level at 2.31% gives way, this will mean rates will retrace to the longer term trend line first put in place post-Brexit.  This post-Brexit trend line represents the stronger economic data momentum (non-Trump induced) and central banks pivoting away from easing themes.  Those two themes still persist.   It would not be unreasonable to see 2.15% by May which fills the gap from November and meets up with the longer-term uptrend that I think will end up holding. 

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It appears that the neo-cons are on the verge of victory again: according to CNN, Trump has told some members of Congress that he is considering military action in Syria in retaliation for this week’s chemical attack and recognizes the seriousness of the situation, a source familiar with the calls tells CNN.

Source: Trump is considering military action in Syria, recognizes the seriousness of the situation https://t.co/G19JoiQtni http://pic.twitter.com/uWl0FjyyRM

— CNN (@CNN) April 6, 2017

CNN hedges by noting that its source said the president had not firmly decided to go ahead with it, but said he was discussing possible actions with Defense Secretary Mattis. Trump is relying on Mattis’ judgment, according to the source.

US officials told CNN “the Pentagon has long standing options to strike Syria’s chemical weapons capability and has presented those options to the administration.“

The sources stressed a decision has not been made.

We now look forward to Russia’s response as the geopolitical situation in Syria devolves to precisely where it was during the Obama administration.

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While investors hang on every dovish word bluffed from a venerable Fed speaker's mouth, the cognitive dissonance when something negative is uttered is stunning. Since Greenspan's "irrational exuberance" moment, asset-gatherers and commission-takers have advised ignoring Fedspeak on stocks… historically, that was a mistake for investors.

Having shocked a soaring market yesterday with the Minutes stating:

"Broad U.S. equity price indexes increased over the intermeeting period, and some measures of valuations, such as price-to-earnings ratios, rose further above historical norms. … Some participants viewed equity prices as quite high relative to standard valuation measures."

Of course, business media was quick to assert this is nothing to worry about, however, as CNBC's Mike Santoli reports, traders shouldn't be so quick to dismiss these comments from Fed officials.

History shows when worries about valuation appear in these official minutes, stocks often struggle in the following year.

We found six mentions of an overvalued stock market in the minutes by searching the Fed's website for the word "valuation" going back to 1996. According to Kensho, here's the performance of the major market averages one year after the meeting when such a mention took place.

Here are the specific mentions of high "valuation" in the minutes, according to the Fed's website, along with the S&P 500's subsequent return from the meeting when that mention was made.

Meeting: April 28-29 — 2015 S&P 500 return 1-year later: -1.97%

 

"However, some indicators suggested that valuations remained stretched for some asset classes. An estimate of the expected real return on equities moved down, reflecting an increase in stock prices and downward revisions to forecasts of corporate earnings, and corporate bond spreads declined somewhat."

 

Sept. 16-17, 2014 — S&P 500 return 1-year later: -0.57%

 

"Some financial developments that could undermine financial stability over time were noted, including a deterioration in leveraged lending standards, stretched stock market valuations, and compressed risk spreads."

 

Jan. 27-28, 2004 — S&P 500 return 1-year later: +3.8%

 

"A number of members commented that expectations of sustained policy accommodation appeared to have contributed to valuations in financial markets that left little room for downside risks, and the change in wording might prompt those markets to adjust more appropriately to changing economic circumstances in the future."

 

Dec. 11, 2001 — S&P 500 return 1-year later: -20.39%

 

"Among those risks, members cited the apparently reduced prospects for additional fiscal stimulus legislation, the vulnerability of current stock market valuations should forecasts of a robust rebound in earnings fail to materialize, the possibility of further terrorist incidents, and especially the potentially adverse effect on consumer confidence and spending of additional deterioration in labor market conditions."

 

March 21, 2000 — S&P 500 return 1-year later: -24.88%

 

"The divergence, at least until recently, in the stock market between the valuations of high-tech firms and those of more traditional, established firms was inducing a redirection of investment funds to business activities that were perceived to be more productive. While the associated capital investments undoubtedly had contributed to the acceleration in productivity, some members expressed concern that the historically elevated valuations of many high-tech stocks were subject to a sizable market adjustment at some point. That risk was underscored by the increased volatility of the stock market."

 

Dec. 17, 1996 — S&P 500 return 1-year later: 32.99%

 

"The rise over recent years had been extraordinary and had brought market valuations to fairly high levels relative to earnings and dividends. In these circumstances, the members recognized the need to monitor with special care price movements in the stock market and asset markets more generally for their implications for consumer and other spending."

Of course, it's different this time though and markets can only go up… because Trump tax reform… stimulus… earnings… right?

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With the question of the Fed’s portfolio normalization now all the rage, accentuated by yesterday’s FOMC Minutes announcement that runoff could start later this year – even as many traders admit nobody has any idea what will happen if and when the Fed starts reducing its holdings, mostly of MBS – on Thursday the NY Fed, the Fed’s trading desk, provided a glimpse into its thinking on how this will play out in its latest Domestic Market Operations annual report.

According to the report, the Fed’s bond holdings could drop to about $2.8 trillion by the end of 2021 – a $1.7 trillion reduction over the next 5 years – with the New York Fed now projecting its balance sheet will reach a “normalized” state some two quarter earlier however with approximately $600 billion more assets than in a year-ago estimate. The U.S. central bank currently has some $4.5 trillion in Treasury and mortgage bonds.

To be sure, many things can and will happen between now and 2021, including the US may have a new president.

Which is why what we found more interesting was the NY Fed’s own forecast on the start of renormalization, which disagreed with the FOMC Minutes, in that Bill Dudley’s Fed does not expect the Fed to start “renormalizing” until mid-2018, to wit: “the size of the SOMA portfolio is projected to remain largely unchanged at its current level of approximately $4.2 trillion through mid-2018, while full reinvestments continue.“

What happens to the balance sheet then:

After that date, it starts to decline as reinvestments are phased out and then ended altogether in mid-2019. The Federal Reserve’s securities holdings then decline until the portfolio reaches its normalized size in the fourth quarter of 2021 (Chart 26). At that time, the domestic securities portfolio is estimated to be about $2.8 trillion, with a slightly higher concentration in Treasury securities than in agency MBS. Thereafter, Treasury-driven growth of securities holdings supports trend balance sheet growth, and agency debt and agency MBS holdings continue to run off.

The NY Fed on suspension of reinvestments vs outright selling:

Once the FOMC ends reinvestments, the pace of the reduction in the size of the SOMA portfolio will largely be driven by the pace of principal receipts from SOMA securities holdings (Chart 27). The timing of principal payments from maturing Treasury securities and agency debt securities is a known function of current SOMA holdings. In contrast, projected principal pay-downs associated with agency MBS are model-based estimates that are subject to considerable uncertainty because of the embedded prepayment option. The actual pay-down path will depend on a variety of factors, including the path of interest rates, changes in housing prices, credit conditions, and other government policy initiatives.

Finally, how the latest forecast differs from last years:

The point of normalization in late 2021 is projected to occur almost two quarters earlier than in the 2015 baseline (Chart 28). The balance sheet starts to contract just over a year later than it was expected to in the 2015 baseline given a longer-than-previously anticipated period for reinvestments to continue. (The December 2015 baseline was modeled on an assumption that reinvestments would begin to be phased out in the first half of 2017.) However, a larger long-run balance sheet size in the current baseline, driven by the assumption about a higher level of reserve balance liabilities in a future policy implementation framework, requires less of the portfolio to run off once such a contraction starts.

And some parting words:

Of course, banks’ demand for reserves and the level of reserves the FOMC will choose to maintain in its long-run policy implementation framework remain uncertain. A set of alternative scenarios highlights  the sensitivity of SOMA portfolio balances to different long-run levels of Federal Reserve liabilities. These scenarios illustrate the degree to which increases (decreases) in liabilities imply a larger (smaller)  level of the SOMA in the long run and how long it might take to achieve a normalized portfolio size. While the projections are modeled with regard to alternative levels of reserve balances, the specific type  of liability is not material; the effect on SOMA portfolio balances would be similar if the alternative levels of liabilities arose from changes in other line items, such as Federal Reserve notes, the TGA, the  foreign repo pool, or DFMU balances.

 

Under a scenario in which reserve balances are $100 billion in the long run (the baseline in prior years’ reports), the size of the balance sheet is normalized in the fourth quarter of 2022, approximately one  year later than in the baseline scenario (Chart 29). In contrast, under a scenario in which reserves are $1 trillion in the long run, the size of the balance sheet is normalized in the fourth quarter of 2020,  nearly one year sooner than in the baseline. Given that Treasury purchases resume at an earlier date, by the end of the forecast horizon the portfolio is more heavily weighted to Treasury securities than it is  in the baseline scenario.

In other words, if all goes according to plan, the Fed will consider its “renormalization” mission complete in about 5 years, at which point it will have no qualms about launching even more QE if it has to.

Source

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Although the major stock market indices are just a few percent from all-time highs, the market is clearly at an interesting and important juncture here.

Since setting new all-time highs in March, the major stock market indices have churned sideways, with only the market leading Nasdaq Composite (INDEXSP:.INX) making marginal new highs.  While this divergence may seem minor in the scheme of things, it comes at a time when chart patterns are testing resistance on longer time frames.

Today, we’ll look at two charts (covering 4 major indexes) that active investors need to be watching.

Dow Jones Transportation Index

The Dow Transports (INDEXDJX:DJT) may be in the process of creating a repeating historical (bearish) pattern that reared its head in 1998-99 and 2007-o8. The bulls will need the transports to blow through the red resistance line to breathe a sigh of relief. If not, it could spell trouble for the transports. You’ll also notice the current uptrend line at point 1 (blue). A break below this line would be the first warning to investors.

The transports are a key cog in our economy, so they also tend to be a key indicator for stocks historically.

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Back in 2013, before Republicans seized control of the Senate during the 2014 mid-term elections, Democrats became the first party to pursue the “nuclear option” in order to appoint Obama judges over the objection of Republicans.  Both Obama and then Senate Majority Leader Harry Reid praised the use of the “nuclear option” at the time:

Obama:  “The gears of government have to work. And the step that a majority of senators took today, I think, will help make those gears work just a little bit better.”

 

Harry Reid:  “It’s time to change. It’s time to change the Senate before this institution becomes obsolete.”

And while Democrats celebrated, Mitch McConnell took to the Senate floor to warn his colleagues on the other side of the aisle that they just might come to regret their decision “sooner than you think.”

“If you want to play games, set another precedent that you’ll no doubt come to regret.  To my friends on the other side of the aisle, you’ll regret this and you may regret it a lot sooner than you think.”

Today, it’s looking increasingly likely that “sooner” has come.  As NBC reports, barring some unexpected, last-minute deal, Senate Majority Leader Mitch McConnell will almost certainly trigger the so-called ‘nuclear option’ later today to confirm Neil Gorsuch to the Supreme Court. 

Senators spent all day yesterday debating the matter, but the outcome — a permanent change in rules that will affect both the Senate and the nation’s highest court — has been as good as settled since at least week when Democrats confirmed they had the votes required to block Gorsuch’s nomination.

Here’s how it will work:

The Senate is slated to hold a procedural vote, called a cloture around mid-day Thursday. Sixty votes are needed to end debate and move forward to a final vote that requires a simple majority of 51 to confirm Gorsuch.

 

But Democrats have enough votes to prevent, or filibuster that first step. When the cloture vote fails, McConnell is likely to begin the process of changing the rules to eliminate filibusters on Supreme Court nominations, with a vote on that expected later Thursday afternoon. Then the final up-or-down vote to confirm Gorsuch is expected to take place on Friday.

Meanwhile, the rule change will come after Senate Democrat Jeff Merkley wasted 15.5 hours ‘filibustering’ on the Senate floor overnight.  Ironically, as even Chuck Todd notes in the video below, Merkley fully supported the Democrats’ use of the ‘nuclear option’ in 2013. 

As The Hill notes, a group of Republicans and Democrats led by Senators Susan Collins (R-Maine) and Christopher Coons (D-Del.) negotiated intensely over the weekend in hopes of avoiding a blowup over the rules, but they fell short.

“The negotiations with which I was heavily involved have failed to come up with a compromise, which saddens me. There’s so little trust between the two parties that it was very difficult to put together an agreement that would avert changing the rules,” Collins told reporters.

 

“I worked very hard over the weekend, as did several Democrats and several Republicans, but we were not able to reach an agreement,” Collins added, estimating that about 10 lawmakers were involved.

 

The group held calls as early as 6:30 a.m. and as late as midnight in hopes of avoiding a rule change adopted along party lines.

 

Coons said the talks fell apart because of pressure from Senate leaders, who weren’t interested in a deal, and from the conservative and liberal bases of the party, who view the Supreme Court’s composition as a top priority.

 

“The fact that both leaders were opposing negotiations also, frankly, made it difficult,” Coons said. “Both caucus leadership and outside groups were a source of steady and aggressive pressure against some consensus negotiation, in both parties.”

Of course, while Republicans will undoubtedly declare victory tomorrow upon Gorsuch’s nomination, it’s only a matter of time before the tables are turned once again and their decision comes back to haunt them. 

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