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Each week Josef Schachter gives you his insights into global events, price forecasts and the fundamentals of the energy sector. Josef offers a twice monthly Black Gold newsletter covering the general energy market and 33 energy, energy service and pipeline & infrastructure companies with regular updates. We also hold quarterly webinars and provide Action BUY and SELL Alerts for paid subscribers. Learn more.
As we are nearing an expected BUY signal for the energy sector, we have extended our special holiday season discount offer for new subscribers to the Schachter Energy report to the close of business this Friday January 13th. By subscribing you will receive our BUY recommendations when we issue our Action Alert BUYS and be able to join our first quarter, 90 minute webinar on February 23rd. This upcoming window should be the best buying opportunity since March 2020. Many energy ideas we cover are down 50% or more from their 2022 highs. I expect to move from an underweight of the sector, which has been our stance for quite some time, to a full ownership weighting during Q1/23.
Global Economic, Political & Military Update:
The US jobs data for December was released last Friday and was well received by investors. Nonfarm payrolls rose by 223K compared to the forecast of 200K new jobs. The Unemployment Rate fell to a multi-decade low of 3.5% (forecast 3.7% and previous month 3.6%). Most of the jobs were low paying entry level jobs so the average hourly earnings (year over year) rose at a moderate 4.6%. This compares to the prior month at up 4.8%. The stock market rallied on this positive economic report and energy prices lifted US$4/b in the days thereafter. While the wage rise was muted versus the expectation, the tight labour market is still of concern to the Fed. Many Fed officials came out after the data report emphasizing that this was only one data point in the lower inflation data stream. Other data points reflected the view that the Fed needs to continue to focus on a too robust labour market and inflation pressures. Federal Reserve Chairman Powell said yesterday that bringing down inflation requires ‘measures that are not popular’. They need a recession to open up the tight labour market and to pull down wage and food inflation to their 2% target level. The December CPI report comes out tomorrow and is expected to show prices up 6.5% from 2021 and flat versus November. It and the accompanying data will be dissected by market watchers to see if inflation could be peaking.
Food inflation is still seeing upward pressure. The UN food agency (FAO) announced that food inflation in 2022 rose by 14.3% and was the highest annual increase since records started in 1990. The FAO’s five subindexes (cereals, meat, dairy, vegetable oils and sugar) are continuing their upward moves. In France, many food companies are closing, lowering production as energy costs have risen too high to stay in business. Half of the food production plants owned by Cofigeo, a large French food conglomerate, have been shut, cutting 80% of their total production capacity. As part of the closures 66% of their workforce was cut. In the US, egg availability is down with some stores not having stocks as avian flu has forced the culling of tens of millions of hens. The price of US Grade A eggs has doubled since the beginning of 2022 from US$1.70/doz to US$3.59/doz as fuel, feed, packaging and labour costs keep rising. In California they are now US$7.37/doz for large eggs due to state cage-free production rules.
We think that a recession in the US is inevitable as the bond market is forecasting rates falling despite Fed plans to raise short term interest rates to cool inflation and increase the supply of labour. Atlanta Fed President, Raphael Bostic, said on Monday that the Fed was committed to tackling high inflation and this warranted raising interest rates into the 5.0 – 5.25% area (1% above the current Fed Funds rate) to squeeze excess demand out of the economy.
As a result of slowing demand, large numbers of layoffs are being announced each week across US industries. The US Manufacturing PMI posted a 46.2 level in December (down from 47.7 in November) and solidly below 50 which signals contraction. Unions with strong bargaining power continue to pressure for wage increases above inflation rates. In New York 7,100 nurses are on strike against two big NYC hospital systems. The fight is not just about pay but also staffing levels due to chronic understaffing and long hours. Also, don’t forget about the railway unions and their lack of a contract. Two days ago, the ECB lamented this labour issue saying ‘very strong wage growth was ahead’ and that to cool down this pressure more interest rate hikes were planned.
The massive increase in Covid cases in China has brought with it a new variant: XBB.1.5, yet another descendant of Omicron. China is not reporting cases of Covid and especially not of deaths which may reach into the millions in 2023. It is reported that crematoria in China are working 24/7 to incinerate the dead. Travel during the Lunar New Year after a three year travel ban may increase the case loads later this month. China is already feeling the economic pain as their manufacturing index declined to 47.0 in December, the lowest reading since February 2020 and below 50 indicates contraction.
Russia may be getting ready to start a new oil price war to sell more oil and gain customers despite the new sanctions. While current Urals pricing is US$51.06/b they are selling oil from their Primorsk Baltic Sea Port (NE of Saint Petersburg) for US$37.80/b. This is the second largest port in Russia and the largest in the Baltic. If they sell only small volumes then it will not matter but if volumes grow to over 500 Kb/d then it will impact Brent and WTI prices going forward.
Bullish pressure for crude prices continues with the production cutbacks by OPEC and winter weather demand for heating oil and propane. While OPEC+ did not cut back by their announced 2.0Mb/d, they are still having an impact on global inventories. OPEC now says the proposed cuts will be implemented over the next 12-14 months into 2024. The January Monthly Oil Market Report will be released on January 17th.
Bearish pressure for crude comes from the slowdown in the economy in China as Covid-19 spreads. Demand destruction due to weakening economies could be in the range of 5-7 Mb/d during 2023, more than offsetting any supply cutbacks from OPEC. Nigeria seems to have made some progress in getting its production back up (data confirming this should be seen next week in the OPEC report) and Venezuela is seeing production rising as Chevron has US government permission to restart its fields.
EIA Weekly Oil Data: The EIA data of Wednesday January 11th (data from January 6th) was very bearish for oil prices. US Commercial Crude Stocks rose by 19.0 Mb (forecast was for a decline of 2.24 Mb) to 439.6 Mb. This compares to 413.3 Mb last year, so storage is up by 26.3Mb from a year ago. The SPR saw a release of only 0.8 Mb. The key reason for the large build was that Net Imports rose by 2.7 Mb/d or by 18.9 Mb on the week. Motor Gasoline inventories rose by 4.1 Mb while Distillate Fuels fell 1.1 Mb. Refinery Utilization rose 4.5% to 84.1%. US production recovered another 100 Kb/d to 12.2 Mb/d. Cushing inventories rose 2.5 Mb to 27.8 Mb. US total product demand fell last week by 563 Kb/d as Other Oils demand fell by 1.8 Mb/d, Distillate demand rose 1.0 Mb/d due to heating oil demand. Motor Gasoline consumption rose 44 Kb/d to 7.6 Mb/d while Jet Fuel saw a decline of 34 Kb/d to 1.4 Mb/d.
Demand destruction is real in the US. Total consumption fell by 3.2M b/d to 17.63 Mb/d or down by 15.3% from last year while Motor Gasoline demand fell by 348 Kb/d to 7.56 Mb/d or down by 4.4% from a year ago. These numbers gyrate weekly but the important point is that demand is falling versus 2022.
EIA Weekly Natural Gas Data: Extreme cold weather across North America last week caused a large drawdown. The EIA data released last Thursday showed a decline of 221 Bcf for the week ending December 30th. Storage is now at 2.89 Tcf, still sufficient to meet US needs this winter. The biggest decrease was in the South Central (96 Bcf). The five-year average for last week was a withdrawal of 101 Bcf, while in 2021 it was a withdrawal of 213 Bcf. The largest withdrawals typically occur in January and February of each year and the largest weekly withdrawal so far was 359 Bcf in January 2018. US Storage is now 9.6% below last year’s level of 3.2 Tcf. With warmer weather in the forecast NYMEX has retreated from US$7.10/mcf in mid-December to US$3.64/mcf today. AECO is at $5.12/mcf. European prices have also declined due to warmer weather across the continent. With this still being very early in winter 2022-2023 for North America we still expect cold periods to see price spikes in the coming weeks back over $6/mcf, on both sides of the border.
Baker Hughes Rig Data: In the data for the week ending January 6th the US rig count fell seven rigs to 772 rigs (flat in the prior week). Of the total rigs working last week, 618 were drilling for oil and the rest were focused on natural gas activity. The overall US rig count is up 31% from 586 rigs working a year ago. The US oil rig count is up 28% from 481 rigs last year at this time. The natural gas rig count is up 42% from last year’s 107 rigs, now at 152 rigs. The industry this year has been responding to higher US and international natural gas prices with materially more activity than last year. This should continue to lift US natural gas production in upcoming quarters as more LNG exports are expected. Companies divulging their plans for 2023 plan to spend more, with capex plans showing growth in production as well as funds to offset higher drilling and completion costs.
In Canada, there was an increase of 105 rigs (decrease of 12 rigs in the prior week) to 189 rigs as crews returned from holidays. Canadian activity is up 34% from 141 rigs last year. Activity for oil rose 45% to 113 rigs versus 78 last year. Natural gas rigs were up 17 rigs to 76 rigs. Peak potential for staffed rigs is likely around 260 this winter.
CONCLUSION:
As a global recession unfolds, crude prices typically plunge sharply. In 2008-2009 during the financial crisis, demand fell by over 5Mb/d from over 88.5Mb/d to 83Mb/d. The price of crude fell from US$147.27/b to US$33.55/b in eight months. During Iraq’s invasion of Kuwait, prices rocketed from US$16.16/b in July 1990 to a high of US$41.15/b in October and then plunged in four months to US$17.45/b as recessionary demand destruction occurred.
WTI is priced now at US$77.26/b (up >US$3.00/b from last week). Watch for a breach of five weeks ago’s low of US$70.08/b for the next (and probably last) decline phase of this correction/bear market phase. We continue to expect a panic spike bottom in the US$65-70/b area in the coming weeks. Below US$70/b we become bullish again.
Energy Stock Market: For the overall stock market we expect a focus on Q4/22 earnings and negative guidance from companies to take hold of the market starting with bank earnings this Friday. US bank earnings are expected to decline on an overall basis by >10% as loan loss reserves are ratcheted up and push the overall markets lower. The inflation watch on food, shelter and wages will also be a focus of the markets. A breach of 30,000 on the Dow Jones Industrials Index should speed up the fear phase and generate an important bottom in Q1/23.
The upcoming weeks should see further pressure on the energy sector and we intend to take advantage of this to add ideas to our Action Alert BUY list. Many ideas we cover are down more than 50% and are entering our BUY ranges. We currently have eight ideas on our Action Alert BUY list and we expect to have over 20 names on this list in the coming weeks.
We now cover 33 companies and are working to add four new ideas. Coverage introduction of these new ideas should occur in February.
The S&P/TSX Energy Index today is at 234 (up eight points from last week’s level of 226). The next sharp decline for crude pulling it below US$70/b accompanied by some nasty down days for energy stocks should set up a wonderful window to buy great companies at bargain prices.
Late September’s low of 200.97 is now the support level to watch. A bust of this level should drive the Index below 200 and get us into the climactic bottom liquidation area of 160-180 that will set up the fabulous buying opportunity. These BUY windows are infrequent so please decide what you want your energy weighting to be for the next major up-leg in this long energy super cycle. Our Coverage List includes ideas from the Pipeline & Infrastructure area, Canadian oil and natural gas ideas, energy service ideas and companies working internationally. Our list includes large Conservative ideas and large to small caps in our Growth and Entrepreneurial categories.
Our Interim SER Report for January will be released tomorrow. It includes our Fearless Forecasts for 2023 and an updated review of Insider Trading activity as well as our normal market overview with charts. One needs to become a subscriber to access this report.
We are having our first 90 minute quarterly webinar on Thursday February 23rd at 7PM MT. This should be a very important webinar for subscribers as we go over the new ideas on our Action BUY list and why they have been added.
Two Days Left!
Once we see the market showing climatic bottom signals we intend to send out Action Alert BUY ideas to subscribers. Become a subscriber to get these timely BUY Action Alerts. Take advantage of this holiday season special pricing offer for new subscribers. Go to https://bit.ly/2FRrp6k.
Please feel free to forward our weekly ‘Eye on Energy’ to friends and colleagues. We always welcome new subscribers to our complimentary energy overview newsletter.
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