November 30, 2016, 3:25pm EST

Over the past year we’ve talked a lot about the oil price bust and the threat it represented to the global economy.  And in past months, we’ve talked about the approaching OPEC meeting, where they had telegraphed a production cut – the first in eight years.  Still, not many were buying it.

Remember, it was OPEC created the oil price crash that started in November of 2014 when the Saudis refused a production cut.  Ultimately the price of oil fell to $26 a barrel (this past February).

Their strategy:  Kill off the emerging threat of the U.S. shale industry by forcing prices well below where they could produce profitably.  To an extent it worked.  More than 100 small oil related companies in the U.S. filed for bankruptcy over the past two years.

But it soon became evident that cheap oil threatened, not just the U.S. shale industry (which also turned out to threaten the global financial system and global economy), but it threatened the solvency of OPEC member countries (the proverbial shot in the foot).

The big fish, the Saudis, have lost significant revenue from the self-induced oil price plunge, starting the clock on an economic time bomb. They derive about 80% of their revenue from oil.  With that, they’ve run up their budget deficit to more than 15% of GDP in the oil bust environment.  For context, Greece, the well known walking dead member of the euro zone was running a budget deficit of 15% at worst levels back in 2009.

So OPEC members need (have to have) higher oil prices.  Time is working against them. With that, they followed through with a cut today.  Remember, back in the 80s when OPEC merely hinted at a production cut, oil jumped 50% in 24 hours.  Today it was up as much as 10% on the news. But this cut should put a floor under oil in the mid $40s, and lead to $60-$70 oil next year.

All of this said, given the increase in supply from bringing Iran production back online, and from increasing U.S. supply, no one should be cheering more for the pro-growth Trump economy to put a fire under demand than OPEC, especially Saudi Arabia.

Now, as we discussed this week, oil has been a huge drag on global inflation.  With that, the catalyst of a first OPEC cut in eight years driving oil prices higher could put the Fed and other global central banks in a very different position next year.

Consider where the world was just months ago, with downside risks reverting back to the depths of the economic crisis.  Now we have reason to believe oil could be significantly higher next year. That alone will run inflation significantly hotter (flipping the switch on the inflation outlook). Add to that, we have a pro-growth government with a trillion dollar fiscal package and tax cuts entering the mix.

As I said yesterday, we may find that the Fed will tell us in December that they are planning to move rates more like four times next year, instead of two.

The market is already telling us that the inflation switch has been flipped. Just four months ago, the 10 year yield was trading 1.32%, at new record lows.  And as of today, we have a 10-year at 2.40% — and that’s on about a 60 basis point runup since November 8th.

With that said, there has been a shot in the arm for sentiment over the past few weeks. That’s led to the bottoming in rates, bottoming in commodities and potential cheapening of valuations in stocks (given a higher growth outlook).  As a whole, that all becomes self-reinforcing for the better growth outlook story.

And that reduces a lot of threats.  But it creates a new threat: The threat of a collapse in bond prices, runaway in market interest rates.

But what could be the Fed’s best friend, to quell that threat?  Trump’s new Treasury Secretary said today that he thinks they will see companies repatriate as much as $1 trillion.  Much of that money will find a parking place in the biggest, most liquid market in the world:  The U.S. Treasury market.  That should support bonds, and keep the climb in interest rates tame.

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November 28, 2016, 4:45pm EST

With Thanksgiving behind us, we a few key events ahead for markets before we can put a bow on things and call it a year.

As things stand, the S&P 500 is up around 8%, right in line with the long term average return (less dividends).  Yields are around 2.3%.  That’s right about where we left off at the end of 2015 (following the Fed’s first move higher on rates since the crisis).

We may find a round trip for oil as well before the year it over.  On Wednesday, we’ll finally hear from OPEC on a production cut. Remember, it was late September when we were told that the Saudis were finally on board for a production cut, to get oil prices higher and to stop the bleeding in the oil revenue dependent OPEC economies.

As we’ve discussed, it was Saudi Arabia that blocked a cut on
Thanksgiving day evening two years ago.  And that sent oil into a spiral from $70 to as low as $26.  Importantly, cheap oil has not only represented a threat to global economic stability but it’s been deflationary.  The threat to stability and the deflationary pressure is what has kept the Fed on the sidelines, reversing course on their rate hike projections for this year, and then, conversely, becoming progressively more and more dovish since March.

You can see in this graphic from the Fed last December (2015) after they decided to hike for the first time coming out of the crisis period.

Source: Fed

The majority view from Fed members was an expectation that the Fed funds rate would be about 1.375% at this point in th year (2016).  As we know, it hasn’t happened.  As of two months ago, the Fed was expecting rates to be at just 1.00% by the end next year.

This makes this week’s OPEC decision even more important, given the market’s and Fed’s expectations on the path of monetary policy at this point.

If OPEC does as they’ve indicated they will do this week, by announcing the first production cut in oil in eight years, it could send the price of oil back to levels of two years ago — when the oil price bust was started that Thanksgiving day.  That’s $70.

And $70 oil would play a huge role in where rates go next year, in the U.S., and in Europe and Japan.  The inflationary pressures of $70 oil could put the Fed back on a path to hike three to four times in the coming year (as they intended coming into 2016).  And it could create the beginning of taper talk in Europe and Japan.

If we consider that possibility, it makes for a remarkably dramatic change in the global economic outlook in just five weeks (since the Nov 8 election).  As Paul Tudor Jones, one of the great macro traders of all-time, has said: “the very best money is made at the market turns. Everyone says you get killed trying to pick tops and bottoms and you make all your money by playing the trend in the middle. Well for twelve years I have been missing the meat in the middle but I have made a lot of money at tops and bottoms.”  An OPEC move should cement the top in bonds.

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September 28, 2016, 4:30pm EST

Oil popped over $3 from the lows of the day (as much as 7%) on news OPEC has agreed to a production cut.

We’ve talked a lot throughout the year about the price of oil.  When it collapsed to the $20s, it put the entire energy industry on bankruptcy watch.

Of course, oil bounced sharply from those lows of February as central banks stepped in with a coordinated response to stabilize confidence. Not so coincidentally, oil bottomed the same day the Bank of Japan intervened in the currency markets.

The oil price bust all started back in November of 2014, the evening of Thanksgiving Day, when OPEC pulled the rug out from under the oil market by vowing not to make production cuts, in an attempt to crush the nascent shale industry.  At that time, oil was trading around $73.

You can see in this chart, it never saw that price again.

OPEC was successful in heavily damaging the U.S. shale industry through low oil prices, but it has damaged OPEC countries, too.

What will the news of an agreement on a production cut mean?

A policy shift from OPEC can be very powerful.  In 1986, the mere hint of an OPEC policy move sent oil up 50% in just 24 hours.  And as we discussed earlier in the year, the relationship between the price of oil and stocks this year has been tight.  At times, stocks have traded almost tick for tick with oil.

Take a look at this chart.

An oil price back in the $60s would be a catalyst for a big run in stocks into the year end. For a stock market that has been rudderless surrounding a confused Fed and an important election, this oil news could kick it into gear.

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