Market Thoughts | Reverse Course | May 25, 2018

Oil, Rates, and Europe have all reversed course this last week. What were the catalysts, and should we be concerned?

The US backed away recently from the Iran deal. That action results in the eventual sanctioning of Iran, which will leave them, as well as the heavily sanctioned Venezuela, under producing oil for the global supply.  Oil prices, in recent weeks, have shot up in response to this information. Last week, the Organization of Petroleum Exporting Countries (OPEC) indicated that they would likely ease production caps in June to make up for the potential supply reduction from Iran and Venezuela. Also last week, West Texas Crude lost 4.99% in response.

Long-term interest rates decreased in the US last week on several factors. Geo-political risk came and went as it appeared early on that the Summit with North Korea was not going to happen. It was later put back on the table by Saturday, by which time the market reaction for the week was over. Another factor driving rates down, was a conciliatory tone in the Federal Reserve Board (FRB) minutes from May; they conceded that inflation is likely to remain symmetrical to last year on the north side of 2% and that would not be cause for an acceleration of current policy.

After a year of outperformance throughout 2017, Europe appears to be moving in the wrong direction. PMI has slowed dramatically, albeit, still expansionary. In addition, Italy is coming more into focus as the anti-establishment parties have formed a coalition to begin governing Italy–the 3rd largest EU economy. Its nominal GDP, by comparison, is still half the size of Germany and one tenth the size of the US.

There is never a market environment without headwinds. These three just chose to take center stage all in the same week…

  • Oil still represents a long-term opportunity, being at less than 50% of its 2008 levels.
  • Rates in the US will struggle to move north, as similar quality issuance remains low. However, it is encouraging that they are attempting to move.
  • While uncertainty lingers in the EU structure, their PMI still sits at a healthy level, relative to GDP.

 

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