In this historic period of broken charts and unprecedented government action, one of the most striking events yet was spot oil in the US turning negative yesterday.
That was an artifact of the front oil futures contract expiring today. The market essentially went “no bid,” and traders had to pay people to take the expiring contracts off their hands, lest they be forced to take physical delivery of oil they could neither use nor store.
This in turn was caused by the global economic shutdown putting a sudden stop to travel, shipping, and much of industry, while oil producers keep pumping far more oil than anyone can use. That’s not just because of the oil war going on between OPEC, Russia, and the US. Shutting down oil wells can be very expensive, and in some cases, it damages the well.
Result: storage capacity approaching its limits and traders who’ve never even seen a barrel of oil forced to pay to avoid delivery.
But remember—this is a “paper oil” price, not what people are paying at the gas pump. That means this extraordinary circumstance is important, and indicative, but not true price discovery in the real world.
I salute those who saw this coming and profited from buying in to the “oil tankers as storage” play.
What to do now?
Well, despite the 10-billion-barrels-a-day cut pledged by OPEC+, the oil glut continues swelling. I’ve seen estimates that the cuts would have to be three times as large to make a difference. Yes, some parts of the global freeze on economic activity are starting to thaw, but that’s very tentative and gradual—it will be a long time before the oil market is brought into some semblance of normal balance.
Remember that the oil market has been in a persistent surplus for years.
That said, oil isn’t going away.
At some point, starvation becomes a greater threat than COVID-19.
The world will go back to work. People will start driving again. Ships will sail again. Planes will fly again. It may start slowly, but industry will resume, and oil will be used in increasing quantities.
I do think that electrification will eventually put an end to petroleum as a fuel. But that’s many years away. Bankruptcies and physical supply destruction are going to happen in this space immediately. And that will send oil prices higher again, in due course.
It strikes me that oil has become the new uranium.
It’s so hated in popular culture, even nuclear power plants don’t look so bad as an alternative. But it’s still necessary. It can’t be fully replaced in less than decades. And it can’t be supplied at a profit at current prices.
Something has to give—and it will.
Not being a market timer, I’m not going to try to guess when the bottom is in for the oil patch. I’ll want to see an industry in recovery first. Then I’ll look for the best speculative opportunities at that time.
If I wanted to gamble on what could turn out to be spectacular bargains during this market disruption, I’d look for producers with long-term contracts that will enable them to sell oil well above market, no matter what happens to paper oil. But I wouldn’t call that rational speculation. Even a company with a solid contract to deliver oil at high prices for years to come is vulnerable if the counter party goes bankrupt. Placing bets when no one knows what will happen tomorrow is, as I say, gambling.
Play at your own risk.
That brings me to the most important aspect of this whole, amazing turn of events.
Almost no one predicted or projected negative oil prices, even as the reality of the economic shutdown became ever more clearly grim. Not before yesterday, anyway. Yet it happened. And in retrospect, isn’t really that surprising when you think about what’s going on in the real world.
This is exactly what I meant when, in explaining my bearish market outlook to paid subscribers a couple weeks ago, I wrote: “Things that people don’t even know about or understand are breaking in the dark.”
This shocking breakdown in the oil futures market is just one example. I think many more instances of breakdowns like this are happening all around us.
How could things not be breaking in the dark, with most of the population of our entire planet suddenly ordered to stay home?
That’s not just a rhetorical question…
This circumstance means that no economic model is valid at present.
Even the IMF admitted as much last week.
And that means that no current economic forecasts are worth the paper they’re not printed on. Neither the Fed, nor the ECB, nor the PBOC, nor any of the economic Wizards of Oz anywhere in the world have any solid basis for forecasting.
They’re in uncharted waters, sailing blind.
To their credit, company after company is withdrawing guidance for 2020. This is the only sane thing to do when no one knows what will happen tomorrow, let alone over this quarter or next.
Which brings me back to just how insane it’s been for investors to pile back into Wall Street risk assets.
I understand that they’ve been trained by the Fed for years to see bad news as good news. And I get that governments around the world are printing money like there’s no tomorrow, trying to bail everyone and everything out. With the Fed buying junk bonds, I can understand why investors might imagine that there’s no such thing as a risk asset in today’s world.
But…
Like negative oil prices, what’s happening in the US and global economies today is not sustainable. Something’s gotta give—and I think it’s gonna be ugly when it does.
And yet, since the March crash, investors have piled into risk assets as though they could see no risk at all. Some market darling stocks even reached all-time highs last week.
This strikes me as a case of the blind leading the blind.
I’ve thought so for some time, but in my view, yesterday’s crazy oil inversion shows that I’m right. I just can’t see this ending well for those who rush to buy still-overpriced mainstream equities. The whole situation looks like a great big ugly dead-cat bounce to me.
That’s why I’m still in “go to cash, wait for the smash” mode.
The good news is that if I’m wrong, all this madness is still unambiguously bullish for gold and silver. I’m long already, and I’ll have plenty of time to deploy more cash for profit in the years ahead.
But if I’m right, there should be some spectacular buying opportunities in some of the very best speculations on my radar in the near future.
That’s why I’m resisting FOMO—which I admit is a struggle—and holding out for the bargains I still see just ahead.
To each his or her own, of course, but that’s my take.
Caveat emptor,
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