June 12-16, 2023

Tactical Signal 9

Could we be experiencing DISINFLATION and a softening economy while the underpinnings of the economy remain stable? Indicatively, yes. With unemployment well ahead of full employment and the world continuing to spend in the post-pandemic environment, Sowell’s technical signals have continued to sit in full position (100%) since the week of May 22nd.

Emerging above the week's headline news — from the ecological disaster from the dam collapse in Ukraine to the start of the U.S. Presidential race — is the resiliency of the U.S. stock market and the end of the bear market. Stocks rallied last week by another 0.41% marking a 20% gain since its most recent low, reaching the commonly accepted definition of a bull market. This was helped by the tailwind end of the debt ceiling crisis and a series of economic reports pointing to a softening economy in anticipation the Fed might pause rates – supported by a rise in unemployment, fall in crude oil prices, and China's risk of deflation helping U.S. disinflation.

As technology stocks paused from the prior week's gains, Industrial, Financials, and Consumer Discretionary stocks gained +1.67%, +1.21%, and +2.14%, respectively.

The bullish sentiment was also indicative of smaller-cap stocks outpacing large-cap stocks by gaining +1.92%, albeit still lagging YTD. Among the heavy-weight stocks, Tesla continues to dominate the headlines and markets by gaining +14.22% during the week as General Motors joins Ford in its adoption of Tesla's supercharging technology and access to Tesla's superchargers. Tesla stock has gained +98% YTD but still lagging behind Nvidia and Meta's YTD gains of +165% and +120%, respectively.

The forthcoming week will continue to seek disinflation validation in the economy with the key reports on CPI, PPI, Industrial production, and, most importantly, the Fed's interest-rate decision on Wednesday.

Lastly, in the spirit of the graduation season, the English poet John Masefield writes, "There are few earthly things more beautiful than a university. It is a place where those who hate ignorance may strive to know, where those who perceive truth may strive to make others see."

"The Upside Down" of Oil

"Stranger Things" was a Netflix blockbuster about a group of friends growing up in the 80s suddenly thrust into dealing with an alternate dimension called the Upside Down.  This Upside Down looked like the real world, but something was different, and over time, it became the antithesis of the world they knew.

In the world of oil and maybe specifically the world of OPEC, it seems that we might be on the Upside Down. Just a mere year ago, oil had rapidly accelerated to $120 a barrel, and the panicked whispers of $200 a barrel were being viewed as more than a possibility. Russia invaded Ukraine, and world leaders expected Ukraine to have just weeks of independence left before ceding to the Russian tanks approaching Kyiv.

The world had seen this before, and experts were forecasting similar results that had transpired in Crimea and Georgia. Oil prices were proof that we had entered a zone that the world was all too familiar with. Oil was the chess piece that could be moved around the board, and access to oil and energy made the wealth of nations.

Ever since the 1970s, OPEC, a cartel, represented the Arab exporting countries' mutual interest around the world. Those interests are based on oil dollars but represent far more. A look under the hood reveals that Saudi Arabia, as the major player (as it recently did in the world of golf), is influencing through both carrot and stick the actions of OPEC. Without diving too deeply, through price and supply, Saudi Arabia could keep control over the oil monopoly and price. In 2016, Russia was added to this gang to form OPEC+, and as we stated earlier in this piece, Russia has a lifeline made of oil, and all Russia's moves today depend on the oil-fueled war machine. Even today, the price of oil is the dominant factor in global GDP and global inflation.

So why this long-winded preamble here? 

Did anyone believe that today, a year later, and an unresolved war, would see oil trading at almost 50% down or $70 or lower? And is it lost on most that $70 means a lot to the global economy, and the unbelievable resilience we are witnessing in the U.S. economy could be caused by the incredible and complex relationship between all the oil producers and consumers? 

And as we take a closer look at history, things ultimately ended "Upside Down" for OPEC during the 1970s oil crisis. OPEC raised oil prices by cutting production, creating an oil crisis. However, in response, non-OPEC countries pursued new sources of oil. Making it worse, many OPEC members jumped ship and sold even more oil, particularly to combat the loss of revenues. And as if it could get more "upside down," Saudi Arabia flooded the markets with even more oil to punish all who defied them. The result was a glut of oil and lower oil prices—quite the opposite of the purpose of the oil "cartel" OPEC. The outcome was growth in developed countries and economies as all boats rose on oils nosedive, parallel to what we might see today.  

Russia joining forces with OPEC was another attempt to monopolize the supply of oil and swing the power back to oil producers as opposed to buyers, like China, with no end to that demand. But again, we enter the parallel universe of the Upside Down. This time we have the defection of OPEC+ member Russia, who inexplicably thought they had pocket ACEs, but in reality, they had pocket 4s as they played out their Ukrainian Gambit. Correction, Putin played his Ukrainian Gambit. Despite the early onset of $122 oil, the combination of rising Russian oil production, international sanctions, and price caps, oil now trades at $70 or below. 

All this broadly translates into at least a 65% drop in Russia's oil and gas revenues.  

This can't be what Putin expected after the early days of the Ukraine invasion. He'll find it hard to fund a war at this point, forgetting the cost of human life and the political capital he must be burning through. Imagine a 4th dimension where certain "cost of goods" drops by 50%? Imagine no more, as seen by the enclosed chart, and it's quite possibly this effect that supports the current economic resolve in GDP and employment level. Or if there's a new cartel to face – Elon Musk.

Advisory services offered through Sowell Management, a Registered Investment Advisor. The views expressed represent the opinion of Sowell Management. The views are subject to change and are not intended as a forecast or guarantee of future results. This material is for informational purposes only. It does not constitute investment advice and is not intended as an endorsement of any specific investment. Stated information is derived from proprietary and non-proprietary sources that have not been independently verified for accuracy or completeness. While Sowell Management believes the information to be accurate and reliable, we do not claim or have responsibility for its completeness, accuracy, or reliability. Statements of future expectations, estimates, projections, and other forward-looking statements are based on available information and Sowell Management’s view as of the time of these statements. Accordingly, such statements are inherently speculative as they are based on assumptions that may involve known and unknown risks and uncertainties. Actual results, performance or events may differ materially from those expressed or implied in such statements. Investing in securities involves risks, including the potential loss of principal. While equities may offer the potential for greater long-term growth than most debt securities, they generally have higher volatility. International investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles, or from economic or political instability in other nations. Past performance is not indicative of future results.


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