A War Trump Cannot Win

A War Trump Cannot Win

Newman for Prime Minister!

Does that have a nice ring to it?

I’m throwing my hat in for Australia’s top job after making a strategic call last year. It would have paid off handsomely for the nation.

I said in July 2017 that Australia’s politicians — if they had any brains — should take advantage of the high Aussie dollar and buy up as much cheap oil as they could get their hands on.

Oil was under US$50 a barrel then and the Aussie dollar just under 80 cents to the USD.

Alas, Australia’s stock of oil reserves is as thin now as it was then. But the general equation is now much worse for us.

The Aussie dollar is down 4.5% against the greenback for the financial year ending 30 June. Brent oil is up 60% over the same time.

Oil has revved up again in the last week despite the recent OPEC meeting that promised further production. Anxiety about supply is pushing prices up.

This is likely to have Donald Trump thinking. His administration is facing midterm elections later this year.

Trump’s trade antics are currently hitting his agricultural voter base as soft commodities like soybeans sell off. President Trump is unlikely to want high gas prices as well to antagonise the rest of Middle America.

To me, that means there’s a risk that he will move to release some of the barrels in the US’ Strategic Petroleum Reserve unless the oil market cools down.

This would go against convention, but that’s Trump. As trend forecaster Gerald Celente likes to say, there’s no wild card like the Trump card.

Such a move would hit the long oil traders in the short term as the market absorbs the extra barrels. It would also be a signal to take advantage of the dip and accumulate more energy stocks if you can hold for the long term.

That’s because it would be a political fix to an economic problem.

Higher prices are a signal to the market to bring in more supply. Oil companies will only invest in further exploration and production if the incentive is there to do so. The longer oil prices show strength, the more cash reserves and confidence they can build to get on with business.

Watch this space.

In the meantime, it is energy stocks that are giving a lift to the US and Aussie stock markets.

I’ve made the case a few times this year that it would be US banks and energy stocks that take the US market higher. So far I got the oil call right, but it’s a case of not quite yet for the US banks.

The 10-year bond in the US flirted with 3% but has contracted back in recent weeks. That’s keeping the yield curve flat which, all else being equal, is not so great for the banks’ net interest margins.

We need to see the yield curve lift for US banks to show good strength. And that’s going to depend a lot on the outlook for growth and inflation.

We get differing views here. Bloomberg cites an analyst at JPMorgan Asset Management who says the flight back into US bonds is now overdone and, once the trade war cools off, the market will go back to focusing on the US economic strength.

This being the financial markets, the opposite side of the trade is to keep worrying about US-China trade and debt levels when rising short-term rates put pressure on borrowers.

There’s no position without risk. My view is that institutional money will continue to flow towards commodities.

I’ve made the case multiple times now: They’re cheap relative to bonds and stocks and provide a hedge against inflation — especially unexpected inflation.

That’s exactly what the world is seeing when it comes to the oil price right now.

But you don’t have to take my assessment on this at face value. The Australian Financial Review cites Olivia Engle, a portfolio manager for State Street Corporation, an investment management firm, today:

If investors believe that inflation is about to take off, then they need to own companies that are more cyclical in nature and commodity related, she said. “So having some exposure to mining and energy companies is also really important.”

I don’t believe there’s ‘smart’ money in the market. But there sure is ‘big’ money. And it will pull sectors up and down depending on how they’re positioning. If Ms Engels and her team are thinking along these lines, they’re unlikely to be alone.

That means buying the best commodity stocks on the ASX.

In fact, the whole dynamic reminds me of a line investment legend Jim Rogers used to say.

It went something like this: If the world gets better, you’ll be making money in commodities because of the shortages developing. If the world doesn’t get better, the powers that be will print money and you’ll want to own commodities to protect yourself.

Jim presumably stopped using the line because, for a long time, the world was more worried about deflation in the wake of 2008 than inflation.

This is now changing. Unemployment is at a record low, oil prices are rising, and pressure is building around the world as the Fed hikes short-term rates.

President Trump can fiddle with a few economic levers and shoot his mouth off, but he can’t abolish the business cycle.

That means betting on higher inflation, higher interest rates and rising commodity prices as we move into the final stage of a historic bull market.

Once the herd catches on, it will be time to take all bets off the table. But we have to have the final leg-up first.


Callum Newman Signature

Callum Newman,
Editor, The Daily Reckoning Australia