Daily Analysis 14 March 2022 (10-Minute Read)

Hello there,

A magnificent Monday to you as markets continue to deliver mixed signals as investors weigh inflation risks and tightening monetary policy against a continuing Russian onslaught in Ukraine.

In brief (TL:DR)

  • U.S. stocks floundered on Friday with the Dow Jones Industrial Average (-0.69%), S&P 500 (-1.30%) and the Nasdaq Composite (-2.18%) all down and sharp falls in tech stock dragging down the tech-heavier indices, with few investors in the mood to buy.

  • Asian stocks were mixed at Monday's open as traders weighed inflation risks from commodity-supply disruptions and braced for the U.S. Federal Reserve to begin hiking interest rates this week.

  • Benchmark U.S. 10-year Treasury yields rose four basis points to 2.03% (yields rise when bond prices fall) on anticipation of tightening by the U.S. Federal Reserve.

  • The dollar was steady.

  • Oil fell with April 2022 contracts for WTI Crude Oil (Nymex) (-3.15%) at US$105.89.

  • Gold retreated with April 2022 contracts for Gold (Comex) (-0.40%) at US$1,977.00.

  • Bitcoin (-2.69%) fell to US$38,102 into the week as investors shunned risk assets across the board.


In today's issue...

  1. The World Runs on Oil, Hopefully Your Investments Don’t

  2. Your Move Central Bank

  3. Bitcoin Stuck Rangebound as Believers Battle Short Term Traders


Market Overview

The flattening U.S. Treasury yield curve and a 12% drop in global stocks this year, signal worries that receding stimulus and elevated energy, grain and metal costs may choke the world economic recovery post pandemic.

Investors are also waiting to see if Russia defaults on its international debt after losing access to almost half of its foreign exchange reserves.

Price pressures were already high before the war in Ukraine, and the isolation of resource-rich Russia, has stoked commodity costs.

In Asia, Chinese tech shares plunged, hurt by continuing concerns over a regulatory squeeze at home as well as fears that firms may have to delist from the U.S. with no guarantees of a relisting in Hong Kong.

Surging Covid-19 cases in China are also dimming the economic outlook and weighing on the nation’s shares more broadly as that economy begins to slow.

Asian markets were mixed on Monday with Tokyo's Nikkei 225 (+0.69%) and Sydney’s ASX 200 (+1.19%), while Hong Kong's Hang Seng Index (-3.86%) and Seoul's Kospi Index (-0.79%) were down in the morning trading session.


1. The World Runs on Oil, Hopefully Your Investment Don't

  • With the Russian invasion of Ukraine continuing with reckless abandon, the price of oil looks to be persistently high, weighing heavily on the stocks of companies which are heavy consumers of the black stuff, especially airlines.

  • Given Russia’s key role in global energy supply, the sudden withdrawal of Russian supply on global markets could make the Middle Easter oil crisis of the 1970s feel like a non-event.

With the increasing number of Teslas and electric vehicles zipping around and charging stations becoming more common in many parts of the world, one place where electrification is still a long time coming is in the aviation and shipping industry.

While there has been some experimentation with using all-electric aircraft, it is still in the extremely early stages and safe to say it will be some time before anyone will be boarding an all-electric commercial airliner at this point.

And with the Russian invasion of Ukraine continuing with reckless abandon, the price of oil looks to be persistently high, weighing heavily on the stocks of companies which are heavy consumers of the black stuff, especially airlines.

As the world emerges from the pandemic, long-term airline bulls were hit with another wave of setbacks as geopolitics has thrown a spanner in the works for their recovery story with the soaring price of oil proving to be a drag on their operations.

Investors meanwhile aren’t sticking around to find out how it all plays out as they race for the exits on oil dependent industries.

With Washington banning imports of Russian oil, prices could surge a lot higher and a lot faster if the rest of the world starts to follow suit, taking as much as 10% of global oil supply off the market.

Worst hit may be airlines and cruise companies, but there are a string of other firms that rely heavily on oil as a feedstock, including everything from plastics to clothing which uses synthetic polymers.

Airlines are the most obvious victim of a sharp spike in oil prices, with U.S. carriers down by around a fifth on average, and their debt yields soaring.

But other industries will suffer as well, including fast fashion, where margins are typically lower and clothing made largely of synthetic material.

Tire makers who utilize synthetic rubber to make their tires are also suffering from selling pressure.

Given Russia’s key role in global energy supply, the sudden withdrawal of Russian supply on global markets could make the Middle Easter oil crisis of the 1970s feel like a non-event.

Even though oil prices pulled back somewhat towards the end of last week, they are still expected to remain elevated for a long time and new sources which will want to take advantage of the higher prices can’t be turned on at the flip of a switch.

Years of underinvestment in searching out new sources and the high cost of capital involved means that producers may have little incentive to lay down heavy bets that oil will stay high indefinitely and choose instead to work existing supply harder.

Like any other extraction-based business, the low-hanging fruit for oil has all been tapped, which means that producers will need to weigh the cost of spending billions in tapping new sources of shale oil or other harder to reach locations, against the benefit of higher profits.

Instead, there is a strong incentive to maintain the status quo – keep the current taps running and earn those nice fat margins, rather than take a risky gamble with leverage, at the risk that oil prices may only collapse in the future.



2. Your Move Central Bank

  • The U.S. Federal Reserve is widely expected to raise interest rates by 0.25% at its meeting this week, the first time since slashing borrowing costs to zero at the start of the pandemic.

  • The problem facing central bankers is that even in the best of times, monetary policy is a blunt tool for reigning in inflationary pressures – in times of external shocks like an unprovoked invasion of a major commodity supplier by a belligerent foreign country – they can be useless.

Soaring prices of everything that make life livable, are putting increasing amounts of pressure on central banks which are also having to simultaneously deal with the consequences of rising costs that could dampen economic growth.

What will policymakers do?

The U.S. Federal Reserve is widely expected to raise interest rates by 0.25% at its meeting this week, the first time since slashing borrowing costs to zero at the start of the pandemic.

U.S. Federal Reserve Chairman Jerome Powell articulated the central bank’s intentions in testimony before Congress earlier this month, signaling a preparedness to begin a series of interest rate hikes, despite Russia’s invasion of Ukraine and consequent economic fallout.

Markets have also fully priced in the quarter-point rate hike in March, with another five expected over the remaining six meetings this year, which would leave the Fed’s key interest rate at around 1.5% by December, well shy of the 2.0% to 2.5% most analysts had forecast at the beginning of the year.

Then again, Russian troops hadn’t yet invaded Ukraine in January and inflation was still the key hot button issue (it still is) just that the war in Ukraine is derailing that focus.

The problem facing central bankers is that even in the best of times, monetary policy is a blunt tool for reigning in inflationary pressures – in times of external shocks like an unprovoked invasion of a major commodity supplier by a belligerent foreign country – they can be useless.

Tighter monetary policy simply cannot deflate prices driven by supply-side shocks such as the conflict in Ukraine, which has sent energy and commodity prices soaring.

The rich Ukrainian soil which would typically be sown with wheat at this time of the year is instead being planted with bodies, bombs and ballistics and that will affect things to come for next year’s harvest.

Ukraine is a major agricultural and commodity producer, as is Russia, which has since been excluded from the global market and no amount of central rate hikes can make up for a shortage of their resources to on dinner tables and garages globally.

High food and fuel prices raise costs not just for individuals, but companies as well, putting pressure on margins, which until fairly recently, were assumed to be thick enough to absorb increasing borrowing costs.

And the Fed is well aware of this, because tightening monetary policy too quickly in such an environment tip the U.S. into a recession.

Inflation may be bad, but given that the Fed can’t do much about this type of inflation anyway, cranking up borrowing costs does more harm than good and it’s highly unlikely that the policymakers want a recession because that would reverse all that they’ve done with employment and the economic recovery.



3. Bitcoin Stuck Rangebound as Believers Battle Short Term Traders

  • Over the past several months, every time that Bitcoin has fallen and analysts opine that the benchmark cryptocurrency still has more to fall, these investors swoop in, setting up a floor for Bitcoin and a level of support.

  • Against this backdrop, institutional investors who were reluctant to get in on the cryptocurrency bandwagon at its all-time-high are being opportunistic and buying on the low, accumulating over time and looking out for entry points.

“To refer to a personal taste of mine, I’m going to buy hamburgers the rest of my life. When hamburgers go down in price, we sing the ‘Hallelujah Chorus’ in the Buffett household. When hamburgers go up in price, we weep. For most people, it’s the same with everything in life they will be buying — except stocks. When stocks go down and you can get more for your money, people don’t like them anymore.”

– Warren Buffett

Bitcoin, at least in the investing world, may increasingly be a matter of “personal taste.”

With an increasing number of high-profile investors pouring into Bitcoin and cryptocurrencies – like billionaire hedge fund managers Paul Tudor Jones and Alan Howard, there appears to be a sufficiently large demographic that is more than happy to buy Bitcoin whenever prices fall – the hamburger lovers if you like, to extend Buffett’s analogy.

Over the past several months, every time that Bitcoin has fallen and analysts opine that the benchmark cryptocurrency still has more to fall, these investors swoop in, setting up a floor for Bitcoin and a level of support.

On the other hand, short-term Bitcoin traders are underwater as long as the cryptocurrency trades below US$47,000 and each time it comes close to that, they take losses and sell out, putting a cap on the upside – the investors who don’t like Bitcoin anymore even though it’s cheaper and just want to claw back their capital.

The phenomenon is a consequence of an understanding and knowledge gap with respect to Bitcoin, as well as pretty standard investor psychology – an ill-informed investor starts paying attention to Bitcoin as its price rises.

Fearful that the price will keep on rising, that investor then rushes in just as Bitcoin is peaking and prices start to fall.

Because said investor never bothered to learn about the asset class anyway, they panic, and the moment that they can make back their capital or a small loss, they sell.

The result has been that Bitcoin remains stuck rangebound – caught between the two forces of the uninformed and the unwavering.

Recent investors who likely bought Bitcoin at a high and are using any opportunity to sell, are being stirred by anxiety over central bank policy tightening as well as the Russian invasion of Ukraine, and see Bitcoin just like any other risk asset.

Whereas investors who bought Bitcoin a long time ago, who still see tremendous paper gains on their portfolios, don’t trade or sell it – they either understand the value proposition or they believe in the long-term value versus fiat currencies.

As a result, because so much of Bitcoin remains illiquid (most is just held), the little that is traded can result in significant price swings which don’t necessarily reflect its long-term fundamentals.

Against this backdrop, institutional investors who were reluctant to get in on the cryptocurrency bandwagon at its all-time-high are being opportunistic and buying on the low, accumulating over time and looking out for entry points.

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