Schachter’s Eye on Energy: Global Banking Crisis Is Not Over. Use Periods Of Market Turmoil To Add To Bargain Energy Stock Positions.

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 37 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. 

There will be no Eye on Energy issue next week as I am traveling. Our next report will come out on Thursday April 13th due to the holiday on Monday. 

Global Economic, Political & Military Update:

Markets are on a reprieve after the FDIC found a buyer for Silicon Valley Bank’s assets by another regional bank. First Citizens Bancshares (FCNCA) based in North Carolina doubled in size doing this deal. The purchase included US$119B of deposits, US$72B of SVB loans and 17 branches. First Citizens is the US’s 30th largest bank with US$109B in assets lifting the bank to the top 25 in the US. It has 500+ branches in 23 States. The deal provides a US$20B haircut on the assets that will be eaten by the FDIC which had US$125B of insurance funds before the recent bank failures and takeovers. The worry for First Citizens is keeping the new deposits as bank runs are still occurring, but at a slower pace.

Last week US banks borrowed US$500B from different federal authorities. Large banks borrowed US$250B despite large inflows of deposits from smaller banks and small banks borrowed US$250B. The relative amount the small banks borrowed is twice as much as the big banks. The concern is that deposits continued to evaporate from banks last week, with the most from smaller banks. Large institutions gained deposits of US$67B while smaller banks saw outflows of US$120B. JPMorgan noted last week that the most vulnerable banks lost a total of US$1T in deposits since last year with half occurring since the SVB collapse. With more than 4,000 banks in the US and many working in smaller communities this becomes a big threat to the US economy if these banks are hampered from lending to local businesses because of liquidity concerns.  

First Republic (FRC) and PacWest (PACW) remain the US banks most watched as the value of their bank stock has not recovered much since the sale of SVB compared to other bank stock recoveries. FRC remains below US$14 per share (low US$11.52 per share) and down from US$147.68 per share at the beginning of February. Many believe a forced merger is needed to stem the run on its deposits. PacWest trades now at US$9.33 down on the day and down from the high in early February of US$29.80 per share. Both these banks need to shore up their balance sheets or consummate a merger with a stronger entity. 

As investors take their deposits from banks they are moving en masse to money market funds which are yielding more than bank saving and checking rates and now have US$5.1T tucked into  these funds, a record high. 

Central banks around the world are needing additional US$ liquidity. Coordinated central bank action occurred by the Bank of Canada, the Bank of England, the Federal Reserve and the Swiss National Bank. The Swiss took down three loans of US$107B to help during the Credit Suisse crisis. A foreign central bank not covered by FX swap lines needed over US$30B. 

European banks remain a concern and two are under the radar: Deutsche Bank and BNP Paribas due to their large off balance sheet derivatives. Global derivatives are seen by Bloomberg at over US$2,000T – US$2+ Quadrillion). If any bank does not want to settle with a bank it does not trust as a counterparty then the house of cards could tumble. So any more pressures on banks’ deposits or counterparty trade fails, could cause severe runs and the pressure to merge or go under. In 2008-2009 after Bear Stearns was forcibly merged into a reluctant JPMorgan, the next to go was Lehman which did not get support and went under and the GFC stock market meltdown ensued. This is the sword hanging over the banking world now. How far will Central banks and Governments go to bail out banks that took on too much risk? How much is the blame due to the ECB and the Bank of Japan for having gone to negative interest rates, which severely injured the profitability and capital positions of the banks?

For those annoyed, disgusted or worried about this situation, remember markets discount travails quickly. Look at the Dow, S&P 500, NASDAQ charts of 2008-2009 and 2020 and you can see painful declines in the stock markets but soon they overly discounted the problems and recovered quickly. This is the scenario I am looking to see happen in the coming weeks. One more shakeout and there will be bargains in all market sectors. So please consider all sectors you own and add to your favorite names. Of course have a decent allocation to the energy sector to take advantage of the ongoing energy super cycle. Many energy stocks are down over 50% from their 2022 highs. If you want to see what our subscribers are looking at (the 14 new ideas added on March 13 and March 15th to the eight already there – now a total of 22 energy investment ideas), sign up now for access to the Schachter Energy Research reports at https://bit.ly/2FRrp6k

Regarding the next move by the Fed at their upcoming  meeting in May (2nd and 3rd) many forecasters are expecting no increase in the Fed Funds rate and that in 2H/23 there will be two rate cuts. We do not concur unless a major GFC crisis unfolds. The reason is inflation is not abating for food, energy and shelter. We see energy prices having bottomed out and rising in 2H3/23 to over US$90/b which will impact CPI  and PPI and supply chain costs. In addition, recent wage increases are not conducive to the Fed’s goal of 2% inflation. To obtain workers Disney increased wages 20% immediately and a total increase in pay of 37% over a three year contract. This affected 32,000 hourly workers at their Disney World parks. In Los Angeles education workers and school employees (65,000 people) held a three day strike and got a nearly 30% increase in their pay package starting with a $1,000 one-time raise and hourly minimum wages set at US$22.52 per hour. The contract term is only until June 2024. 

Europe is not immune to this as Germany is facing its largest strike in decades with no public transportation, no railroads working and airports closed. Large wage increases to offset inflation are the reason for the strike action.

Bullish pressure for crude prices continues with the modest production cutbacks by OPEC and increasing signs that China is reopening. The economic and energy bulls hope that if China reopens successfully crude demand would increase this year by over 1.0 Mb/d. 

Bearish pressure for crude comes from the weakness in China’s export economy. Crude demand destruction due to weakening global economies could be in the range of 5 – 7 Mb/d during 2023, more than offsetting any supply cutbacks from OPEC. The US alone has consumption down by 7.5% from 2022 levels according to today’s EIA Weekly Petroleum Report (see below). The recent cut-off of Kurdistan oil sales of 400,000 b/d via Ceyhan in Turkey gave crude a bounce back over US$70/b. 

EIA Weekly Oil Data: The EIA data released today (data cut-off March 24th) was mostly bullish for oil prices. US Commercial Crude Stocks fell by 7.5 Mb to 473.7 Mb. Part of this decline was due to Net Imports falling by 499 Kb/d or by 3.5 Mb on the week. Storage now is 63.7 Mb or 15.5% above a year ago. The SPR saw no release of crude again this week. The US has an adequate supply of crude.

Motor Gasoline inventories fell by 2.9 Mb while Distillate Fuels grew by 0.3 Mb. Refinery Utilization rose 1.7% to 90.3%. US production fell last week by 100 Kb/d to 12.2 Mb/d. Cushing inventories fell 1.6 Mb to 35.2 Mb. Motor Gasoline consumption rose by 185 Kb/d to 9.15 Mb/d while Jet Fuel saw a small decline of  157 Kb/d to 1.45 Mb/d. 

Demand destruction is real in the US. The numbers gyrate weekly but the important point is that demand has declined from last year. On a cumulative daily average for 2023 versus 2022, demand is down 7.5% (19.77 Mb/d versus 21.375 Mb/d). 

EIA Weekly Natural Gas Data: The EIA data released last Thursday showed a decline of 72 Bcf for the week ending March 17th. Storage is now at 1.90 Tcf, more than sufficient to meet US needs for the last few weeks of winter. The biggest decreases were in the East (down 36 Bcf) and Midwest  (down 29 Bcf). This compares to the five-year withdrawal rate of 35 Bcf and the 2022 withdrawal of 51 Bcf. US Storage is now 36.1% above last year’s level of 1.39 Tcf and 22.7% above the five year average of 1.55 Tcf. With the warmer weather and the healthy storage position, NYMEX has retreated from US$7.10/mcf in mid-December to US$2.00/mcf today. AECO today hovers around C$2.62/mcf. There are two more weeks in the withdrawal season so storage will be very full as we enter the injection season again. Storage may exceed the historic five-year average high by the time we reach April 1st. The US price remains weak even though the Freeport LNG plant is ramping back up as warmer weather is in the forecast. Natural gas prices may remain weak for a while until the summer air-conditioning season adds to demand. 

Baker Hughes Rig Data: In the data for the week ending March 24th  the US rig count was up four rigs to 758 rigs (up eight rigs last week). Of the total rigs working last week, 503 were drilling for oil and the rest were focused on natural gas activity. The overall US rig count is up 13% from 670 rigs working a year ago. The US oil rig count is up 12% from 531 rigs last year at this time. The natural gas rig count is up 18% from last year’s 137 rigs, now at 162 rigs.  Recent lower crude and natural gas prices is the reason for the slowdown in drilling from the prior very active pace. 

In Canada, there was a decrease of 42 rigs (decrease of 16 rigs in the prior week) to 165 rigs as winter programs end and spring break-up road bans start up. Canadian activity is up 18% from 140 rigs last year. Activity for oil is higher by 13% to 86 rigs versus 76 rigs last year but down 36 rigs on the week. Natural gas rigs were down six rigs to 79 rigs but up from 64 rigs last year. We are clearly past the peak of drilling activity for Canada for winter 2022-2023. 

CONCLUSION: 

Historically, 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. So far this war cycle of Russia invading Ukraine has lifted WTI to US$130.50/b in March 2022 (US$75/b at the beginning of the year) to a low so far in 2023 of US$64.36/b or down by 51%. 

WTI is priced today at US$73.02/b (up US$3/b from a week ago). We expect crude to trade between US$64 to US$75/b over the next few weeks and on down days take advantage of the bargains in stock prices and be a buyer. I also expect at least one of the remaining BUY signals to be triggered and more ideas added to the SER Action BUY List. Subscribers, keep an eye in your in-basket when you see big down market days. These down market days are the best days to build your positions for the lengthy energy super cycle I see lasting into the end of the decade. 

Energy Stock Market: For the overall stock market we expect a focus on  Q1/23 earnings and negative guidance from companies to take hold of the market and see further erosion with the Dow Jones Industrials declining below 29,000 (now 32,627). Any further bank failures (which we expect) would cause this decline to be precipitous. Our technician market forecasters have been right on the downside for the overall market and the painful moves in the sector under attack (global banking). 

The S&P/TSX Energy Index today is at 226 (same as last week) as the market gets a reprieve due to the bandaids put on by the Central Banks and Treasury Departments to halt the bank runs. 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 small to large caps in our Growth and Entrepreneurial categories. 

We fully rejoined the bull camp on Monday March 13th when the first of our four BUY indicators kicked in. We added seven great ideas to the original eight. This took us to 15 great BUY ideas. On March 15th crude busted US$70/b (dropping to US$65.65/b) as fear of a global recession due to the financial crisis woke up memories of 2008-2009. The market got hit that day by the problems and later forced merger of Credit Suisse by UBS in a take-under that reminded investors of the forced merger of Bear Stearns into JPMorgan, another takeunder. where Crude fell over US$5/b that day. 

We have two more BUY indicators that usually join when the fear level rises and intermarket liquidation occurs. If they trigger in the coming weeks we plan to add additional ideas to the Action BUY List if the stocks reach our target BUY ranges. The two remaining indicators are 1) the Bullish Percent Indicator falls below 5% – a Table Pounding BUY Indicator and 2) the S&P/TSX Energy Index falls below 200 (today 227 up from the recent low of 209). If any one of these other two BUY signals are triggered we will be sending out a third Action BUY List with 6-8 additional attractively priced ideas across the spectrum of our coverage: natural gas, liquids, energy service and pipeline & infrastructure stocks. 

We have nearly completed our review of all 37 companies that we cover and bargains are everywhere. Many E&P companies now trade below their PDP levels (proved developed producing reserves). You get the proved non-producing, the probables, land and tax pools for free and with some you are being paid dividends (regular and specials of over 10%). That’s not easy to beat in other market sectors.  Many of the service companies are trading with debt free or net debt free balance sheets and some are now paying dividends. And on the pipeline and infrastructure side you have companies trading with 6-7% yields and are trading 20-25% below their 2022 highs. In a recovery they should see 15%+ capital gains for total upside returns in this conservative sector of over 20% in the next twelve months. For E&P and Energy service stocks we see 50%+ upsides from capital gain potential and dividends for those that pay them. Why such upside?  We see WTI lifting into the US$70s during Q2/23, US$80’s into Q3/Q4 and for trading in Q4/23 to reach above US$90/b that gives the sector the large capital appreciation potential.

If we have one more meaningful general market decline into early April, many of our Coverage List ideas should reach the lower end of our BUY ranges and be tremendous bargains for investors. Be ready to invest during this next general market pressured decline. 

We are working on our March SER Report which will be out March 30th.  In this issue we plan to cover 11 more of the companies we cover that have reported their Q4/22 and 2022 annual results by our report cut-off date. In our last issue we covered 16 companies and in the issue before the first five early reporters. We have five more companies to cover in upcoming reports in April. If you are interested in access to these research reviews, become a subscriber and get our timely BUY Action Alerts as well, 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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