Plunging Oil Prices Spark Fears of Global Recession by Gary D. Halbert
FORECASTS & TRENDS E-LETTER
by Gary D. Halbert
December 16, 2014
IN THIS ISSUE:
1. Could Plunging Oil Prices Portend Something Worse?
2. Worst Week For Dow Jones Stocks Since 2011
3. Americans Finally Turning Bullish on the Economy
4. National Debt Topped $18 Trillion in Late November
Today, we touch on several bases. No doubt everyone reading this noticed that stocks tanked last week, and now seem to be moving in lockstep with oil prices. While consumers welcome cheaper gas and heating oil prices, there is a growing fear that the collapse in oil prices may be a harbinger of a global recession.
Despite worries that the oil price plunge is pulling down stock prices, the latest Reuters/University of Michigan Consumer Sentiment Index soared to a near eight-year high this month. Expectations for a better job market helped power the Index from 88.8 in November to 93.8 this month, well above expectations.
Finally, I am sad to report that our national debt topped $18 trillion on November 28 according to the Treasury Department. It was not widely reported by the mainstream media, of course. While our annual budget deficits have come down significantly from the first four years of the Obama administration, we are still on-track to hit a whopping $20+ trillion national debt by 2019.
Could Plunging Oil Prices Portend Something Worse?
Cratering crude oil prices may be a blessing to cash-strapped American consumers, but it’s a double-edged sword when it comes to the overall economy. The problem for the overall economy is not so much the drop in oil prices as it is the velocity at which oil prices have fallen.
The plunge from a peak of just over $107 (West Texas Intermediate) per barrel in the early summer to today’s sub- $56 is a massive drop of apprx. 45% in just a few short months, most of which has come in the last few weeks. This has analysts worrying that something worse may well be going on.
The rapid fall in crude prices is a telling sign to some Wall Street analysts and economists that there may be a global recession taking hold and the slowing growth is pushing oil lower. Remember, at the height of the financial crisis, crude got down into the high $30s a barrel at the end of 2008 as the US and Europe went into a recession.
Some forecasters believe that energy pricing forces have gone well beyond the supply/demand models and are now considering other geopolitical developments. As I wrote last week, I know of no forecasters that predicted oil prices would fall this far this fast.
There are plenty of commodity fund operators and hedge fund managers holding high-yield energy bonds that are taking it on the chin. Plus, several of the largest banks came out last week saying that while business in general was good, trading revenue will be down from last quarter – presumably due to losses in energy positions.
The banks did not attribute it to oil’s slide but, given the collapse in crude prices, it should be safe to assume that their profits from rising bond prices of late were dampened by plummeting oil prices in their commodity holdings and cratering high-yield energy plays, which may default at some point.
The swift collapse in energy prices has certainly taken a toll on our fastest-growing US industry and our country’s #1 job producer since the recession – domestic drilling for oil and natural gas. As the price of WTI crude is now below $55 a barrel, domestic drillers in Pennsylvania and the upper Midwest may be hard-pressed to keep production going full throttle.
At stake are nearly two million well-paying jobs. According to the most recent Bureau of Labor Statistics figures, the average worker in the oil and natural gas industry was making $107,198. That’s almost $58,000 higher than the average annual pay across all industries.
Big Oil is definitely feeling the pinch. ConocoPhillips just slashed its 2015 capital-expenditures budget by a whopping 20% to $13.5 billion earlier this month. The more than $3 billion budget cut was significantly larger than analysts were expecting.
In the past, lower oil prices were beneficial to the US economy, and they will be this time as well. Yet there are growing fears that the current collapse in energy prices may be a harbinger of a global recession. This explains why the plunge in oil prices spilled over into the equity markets last week and so far this week.
Worst Week For Dow Jones Stocks Since 2011
US stocks were pummeled last week as investors, rattled by collapsing oil prices and concerned about the health of the global economy, fueled triple-digit losses in blue-chip stocks. The S&P 500 ended the week with the biggest loss in two-and-a-half years, down over 3.5%, while the Dow Jones Industrial Average recorded its largest weekly decline since September 2011. Both markets were down again yesterday.
Last week’s jarring selloff came on the heels of seven straight weeks of gains and was closely linked to the precipitous fall in oil prices, sending a measure of volatility, the VIX, to its highest level since October 17.
Crude oil futures dropped more than 12% over the past week as global supply continued to outstrip demand, while the International Energy Agency cut its forecast for global demand yet again. Despite that, OPEC voted earlier this month not to cut daily oil production despite its own forecast that global demand for its oil is now the lowest since 2003.
You would think that those facts alone would sufficiently explain the sudden plunge in oil prices. Yet investors are growing increasingly concerned that the global economy might be succumbing to deflation, a consistent decline in prices that usually leads to recessions and depressions.
Stocks plunged from mid-September through mid-October before staging a sharp rebound that culminated with the Dow hitting a new all-time high earlier this month on the back of a strong US jobs report. Heading into last week, many investors were predicting that the Dow would soon top 18,000 for the first time.
But the sharp sell-off in oil has changed all that. Crude prices are now below $55 a barrel, their lowest level in more than five years. Energy stocks have been hit hard as a result. However, oil stocks were not the only big losers last week – and that could be another sign that investors are growing more nervous about the overall market and a weakening global economy.
It will be interesting to see how much longer this trend can last. If oil prices continue to drop and the economies of Europe, Asia and Latin America weaken further, that eventually has to hurt the US economy at some point.
Americans Finally Turning Bullish on the Economy
While it remains to be seen how the oil price plunge plays out, lower gasoline and heating oil prices are boosting consumer sentiment. Pessimism and doubt have dominated how Americans see the economy for many years. Now, in a hopeful sign for the economic outlook, confidence is suddenly picking up.
Expectations for a better job market helped power the Thomson Reuters/University of Michigan Consumer Sentiment