Another Turkey Day of Terror - Crude Chronicles Energy Index Update

The Gist: The first half of this post are my thoughts around another tumultuous Turkey Day OPEC meeting. Conclusion - the setup is not the same as 2014 & the Fed matters more than OPEC for oil markets. The second half of the post are some longer term thoughts after updating my Crude Chronicles Energy Index (CCEI).

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Happy Thanksgiving!

Not long after I scheduled this post to go out we got rumors of infighting within OPEC. As I am presently writing, oil is haircutting another 5% off the price in addition to the 5% haircut from a week earlier.

A lot of similarities are being thrown about between the infamous November 2014 meeting and now.

However, a crucial distinction that cannot be overlooked, and one of the fundamental principles I have consistently emphasized, is that the actions of the Federal Reserve carry significantly more weight than the activities of a group of oil ministers in Vienna.

Hear me out.

In the summer of 2014, months ahead of the November OPEC meeting, Yellen’s Fed began to signal the possibility of hiking rates and the end of the easy monetary policy pursued since the GFC.

The Federal Reserve wouldn't commence the official rate hike until a year and a half later, starting at the December 2015 meeting.

Nevertheless, as illustrated in the above chart, the Fed Funds Shadow Rate, which factors in the impacts of quantitative easing (QE), would begin its rise in July of 2014.

The dollar would also begin its march upward and oil would start to crack.

The result was that all global dollars translated to USD would cause Global M2 (GM2) to fall taking down oil in the process.

The Saudi decision would happen months AFTER that crescendo in oil.

Fast forward to today and the setup IS NOT the same.

The dollar has actually started to weaken of late as the bond market is pricing more cuts in 2024 since that weak jobs number we just had.

A weaker dollar is good for global growth and good for GM2 because it would give the credit cycle a little more life before the longest-ever awaited recession begins.

If global credit/GM2 growth holds up in the short run that would help sustain a bounce in the manufacturing cycle.

When I look at the relationship between consumer discretionary stocks vs. consumer staples, they are signaling a bounce in the manufacturing cycle. One has to remember that Consumer Discretionary + Staples is a larger sector of the market (~17%) than us poor Energy folks (4%).

I have no clue what the Saudis are going to do. There are probably 2 people on this planet who know and unfortunately, they aren't subscribers (yet).

I leave all the talk about quota compliance to someone else. The quotas are a broken mess but what has not become a mess is the relationship between the Fed, Global M2 and oil.

Now onto our regularly scheduled programming.

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From here forward is the original post before I made the above last-minute edits.

Turkey Day is always nerve-racking for those who have been around the energy game for a while.

The November 2014 OPEC meeting will live in infamy.

Thanksgiving day two years ago was the Omnicron scare and oil prices nosedived by 13% (HERE).

2023 is no exception.

Good times.

Anyway, I updated my energy index for 3Q23 earnings numbers, and here is what we got in this week’s post.

The long-term thoughts on the cycle.

If we take the market cap of oil & gas stocks and divide it by U.S. nominal GDP we get the blue line in this next chart.

The orange line plots the ex-post 10-year total returns (price plus dividends) after inflation.

For example, the orange line shows that from Oct-2013 to Oct-2023 the total return after inflation was 0.9% per annum. Woof.

One could probably have done better rolling T-bills.

The blue line currently sits at 7.5% of GDP which if the relationship holds true would imply a high single-digit (6-8%) total return after inflation over the next 10 years (HERE).

Another way to examine what the future may hold is using my Secularly Adjusted P/E ratio (SAPE), first introduced HERE.

It is the same thinking behind the Shiller CAPE ratio but calculates a P/E multiple based on 26 years of earnings vs. Shiller’s 10 years because secular cycles in energy are longer (on average 13 years up & 13 years down).

Here again, it points towards high single digits over the next 10 years after inflation.

If you were to put a gun to my head and ask me when the cycle is all over, I would say November 28th, 2030.

Why?

Because of this chart on excess earnings yield or O&G earnings yield minus S&P 500 earnings yield.