April 23, 2020
So, what happened? That Economics 101 course you have tried to forget came to life. Global demand for oil has plummeted with the COVID-19 economy – who needs gas when no one is travelling. At the same time, the global oil cartel headed by the Saudis and Russians fell apart, allowing oil to gush from the ground at a rate that was wholly unsustainable. Too much supply + too little demand + a lack of storage capacity = problems.
To be clear, oil, as a commodity, did not become less than worthless yesterday. Brent crude, which is a better grade of the black stuff and originates overseas, still costs money to purchase, albeit much less than a month ago. The phenomenon of WTI was that the May options contracts were expiring, and their mechanics dictate that the owner of the contract upon expiration must come to Cushing, Oklahoma and pick up 1,000 barrels of oil. Not many speculators have an appetite for that and thus chose to pay someone to take the contracts from them rather than finding storage for 42,000 gallons of crude.
As discussed in a previous edition, the Federal Reserve is unloading cash into the financial markets to provide liquidity where necessary. That the oil market “broke” (both figuratively and literally) and is not part of that Fed intervention should cause some pause for investors about getting too far away from their long-term plan and trying to pick up any “steals”. If the oil market’s performance could turn so anomalous without leverage, what could be the unintended consequences of $6 trillion of Fed driven cash on other markets? We stand by our long-held belief that things will be better in the future than they feel today, but we cannot stress enough that investors need to avoid self-inflicted wounds. Investors need to focus on allowing the power of compounding to do its job over time, a long time.
After an informal survey of my colleagues, we have concluded that making history in the investment business skews to the bizarre. Sure, you have some days where the stock market hits all-time highs but more often, when history is made, you get outcomes that hitherto would seem like pure gibberish. Oil trading below $0 certainly ranks up there with one of those. I wonder what my college friend is thinking right now.
We hope that you are all safe and healthy. We appreciate all of the support you have been providing us and hope that you feel the same. There was another issue of Independent Insights penned before the oil market went haywire. That can be found here.
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