DD – A Story of Oil, a Pandemic and Lockdowns, a Money Printer, and Tech Giants

by ASoftEngStudent

In this week’s edition of DDDD (Data-Driven DD), I’ll be following up on a few posts I made a few weeks ago about what the stock market will look like over the next few weeks. Three weeks ago, I talked about the stock market needing consolidating, staying in between 272 and 293, which mostly stayed true (+- 2%). I then talked about the declining retail sentiment, which drove the stock market to euphoria levels, and how we won’t be making any new highs in the bull rally we’ve been seeing any time soon, which also so far has held true. Let’s take another look at potential catalysts that can cause us to break the channel that we’ve been in the past few weeks.

Disclaimer – This is not financial advice, and a lot of the content below is my personal opinion. In fact, the numbers, facts, or explanations presented below could be wrong and be made up. Don’t buy random options because some person on the internet says so; look at what happened to all the SPY 220p 4/17 bag holders. Do your own research and come to your own conclusions on what you should do with your own money, and how levered you want to be based on your personal risk tolerance.

Oil

The WTI June oil futures contract will be expiring on May 19th. Everyone around the world remembered what happened when May oil futures expired – reality caught up. While futures prices can be driven by speculation, on expiration, it will need to converge with the real price (spot price) of oil based on supply and demand for it. Let’s see how crude prices have been for the June contract.

/CLM2020

Oil Futures Contango

Looks like oil prices have recovered to pre-lockdown levels, with June contracts priced right under $30 / barrel. Super-contango seems to also be gone, with only a $0.09 difference between June and July contracts. Another way to think about this is that it should thus only cost $0.09 to store one barrel of oil for one month. Contrast this with April 21, where the difference between June and July contracts were more than $7 / barrel. This should put immense downwards pressure on oil storage spot prices, hence a decline in oil tanker stock prices due to expected lower revenue as a result of this.

$EURN Daily

So is the higher oil prices and decreased contango justified? Let’s look at some metrics published by the Department of Energy.

Refinery inputs and production

Crude Oil Stocks

Crude Oil Spot Prices

Crude inputs to refineries have decreased for the week of May 8 compared to May 1 by about 600kbpd, and is still below the 4-week moving average. Refinery capacity is also still moving on a downtrend, with a 68% utilization for the week of May 8, below the 71% utilization the week before and slightly below the 69% 4-week moving average. We do see a dramatic increase in motor fuel outputs, increasing by about 800kbpd in between weeks of May 8 and May 1, above the 4-week MA. This is likely due to lockdown restrictions being lifted across multiple states, and refineries increasing production in anticipation of increased motor fuel consumption.The decrease in crude inputs last week may indicate that they’ve been overly optimistic and have since decreased utilization.

Crude oil stocks are still increasing, with an additional 1.2M barrels compared to May 1, despite net oil imports decreasing. In Cushing, we do see oil stocks to finally be decreasing with a net change of 3M barrels being taken out of that area in between May 1 and May 8, probably in anticipation of futures contracts expiring. Stocks of motor gasoline are decreasing, indicating increased demand for it as lockdowns ended, and probably prompted refineries to increase production.

Overall, it seems like the story has been that oil demand is slowly restoring with states lifting lockdown, but not as fast as refiners are expecting. Despite decreased supply, crude oils stocks are still slowly increasing. Storage facilities in Cushing have shit their more together this time and are moving their oil stocks from Cushing towards other storage facilities with availability to avoid a storage squeeze like last time. Oil stocks are still increasing, but oil stocks are being allocated more efficiently to utilize excess capacity in other regions, especially away from Cushing, leading to a slowly increasing spot oil price in Cushing despite oil stocks nationwide oil stock increases.

COVID-19 and Lockdowns

The US is currently at approx. 1.5M confirmed cases, and 90K deaths.

US New Cases

We’re seeing a slow decline of new cases; i.e. “flattening the curve”. It doesn’t seem like new cases are being decreased significantly even during lockdown.

In New York, which has been hardest hit and still under lockdown, we see a significant decline.

New York New Cases

We see stay-at-home orders being lifted in several states, and most states reopening retail stores, as well as being in the process of opening dine-in restaurants back up.

States under lockdown

States with dine-in restaurants open

States with retail stores open

What has the effects of reopening been so far? Let’s look at one state, Georgia, which has been the earliest to reopen three weeks ago.

Georgia New Cases

Their new cases have remained effectively flat since re-opening. So while there hasn’t been a new surge in cases, their situation is not improving.

Italy, which has been one of the hardest hit countries, along with the United States, has seen a dramatic improvement with a steady and consistent decline of new cases, giving hope that the US, with a timeline a few weeks behind Italy, will soon be on the other side of the first wave. Italy started easing restrictions around May 4, with shops and restaurants planning to be re-opened by May 18.

Italy New Cases

On the other hand, Iran, a country that also was hit by COVID-19 earlier than the US is seeing another spike in cases and is already dealing with a second wave.

Iran New Cases

We’ll likely see lockdowns across multiple US states being lifted over the next few weeks.

US-China Tensions

The US has recently imposed export restrictions on Huawei that will prevent any chipmakers using American technology from making sales to it. In response, China may be putting American technology companies, including Apple, Qualcomm, and Cisco, on a “unreliable entity list”, which will apply very severe restrictions to those companies’ operations and trade within China.

Round 4 Stimulus

The house has recently passed a phase 4 stimulus bill, the HEROES Act, which will include many provisions including another $1200 check to everyone. This bill passed with Republican resistance, with a 208-199 vote. Most political analysts agree that this phase will take a long time to negotiate and won’t pass as quickly as previous phases, with it passing in June at the earliest.

Tech Antitrust Filings

A leak on Friday from the Justice Department indicates that antitrust lawsuits will be filed against Google later this year. Facebook, Amazon, and Apple are also currently under investigation and may also have antitrust suits filed against them at the same time.

Liquidity the Federal Reserve

The Fed recently published their financial stability report on Friday, which talks about the state of the economy, financial system, and gives forward guidance on what might happen next. Here’s a summary of the interesting parts of their report.

Vulnerabilities in the financial sectors

  • Asset Valuations especially risky assets (i.e. equities) have risen since mid-March and may be vulnerable to significant declines.
  • Business debt, relative to GDP, entered 2020 at historic highs, and had seen rapid increases among businesses with weak credit ratings.
  • Banks and brokers were well capitalized, but hedge funds and insurance companies were highly leveraged, which caused market dislocations when asset prices fell.
  • Funding risk – Although not as bad as 2007-2009, they saw significant strain in funding markets and required Fed intervention

The report then talks about various monetary issues that came up over the past few months, and actions that the Fed has taken to address them, like lowering interest rates, buying commercial paper and bonds, and infinite QE to stabilize credit markets. They also talk about the strain on the global dollar funding markets, and the international demand for dollars causing a widening of FX spreads (i.e. spike in DXY). To alleviate this, they extended swap lines to other central banks.

It also looks like the Fed is slowly winding down their “infinite QE” program, falling from a peak of $75B / day of purchases to $6B / day.

Fed Treasury Purchases

The Bigger Picture

We’re still seeing a slow net increase in oil stocks, despite the lower production and imports, as well as increased refinery utilization. However, oil is being stored more efficiently, with barrels being moved in places with a shortage capacity, like Cushing, to other places in the US. This, along with other actions recently taken by futures brokers, NYMEX, and USO, makes it a shock such as the one we saw when May contracts expired much less likely for the June contracts.

Nothing bad has yet to happen with states that have reopened, with daily increases stabilizing. We have yet to see if this translates to an economic recovery, and if current equity prices are justified. On the other hand, escalating US-China tensions around Huawei may further hurt equity valuations, especially technology companies, which seem to be possible targets of China for retaliation. The confirmation of antitrust filing to at least one tech giant, and the likelihood of further filings for other giants, may also further hurt stock prices in the tech sector, where equity valuations have declined the least throughout the crisis.

The Federal reserve is slowly winding down their QE, and warning that there are still substantial prices in the credit markets and that asset valuations may see a dramatic decrease. From the fiscal side, although a phase 4 stimulus is being considered and has passed the house, it is unlikely we will see this pass anywhere as quickly as the other rounds.

The market has already seemed to price in lifting of lockdowns, combined with weakening monetary stimulus and uncertainty about the possibility of further fiscal stimulus, provides a weak bullish case for further upside in equities. In the meanwhile, potential shocks from antitrust actions and Chinese retaliation to large technology monopolies, which consists of more than a fifth of the S&P500, along with a potential second wave, such as seen in Iran, can be a catalyst to break below 272.

Magic Markers and My Personal Strategy

For those interested in what I’ll be personally doing, and those that have been following me, I’m currently holding SPY puts and VIX calls (among other positions) which I entered back when SPY hit 293, although I did exit my shorter-term SPY puts on Friday after fucking up and missing my exit on Thursday after not following my own strategy that I wrote.

/ES Daily

The 1D MACD on both /ES and SPY did crossover to bearish, with a larger volume than previous days, which makes me confident that over the medium-term we’ll be seeing a downtrend, and is one of the things I need to confirm a drop below 272 for the next drop.

On the short-term, the 1H MACD is bullish, meaning we’re going to need to consolidate over the next day or two. That being said, RSI is heading towards overbought territory.

/ES Hourly

Looking at the 15M chart, we’ve already hit overbought territory, and MACD is turning bearish.

/ES 15M

This probably means we’re going to be opening somewhere below 288 on SPY tomorrow. Depending on how futures act overnight, we’ll probably either see a trading range of 285 – 290 or 278 – 285, depending if we open above or below 285. My strategy is to hold my longer-dated SPY puts and VIX calls, and re-enter my short-dated spreads when SPY RSI is overbought again on the 1H chart or 1H MACD crosses over again.

As with my posts the last few weeks, I’ll be updating this post with a regular updates on what my magic marker horoscope says.

P.S. – I got alot of invites and requests to just form a Discord channel with TA updates and thoughts. Although I was originally considering moving this to Discord, I’ve decided against it since you should not be basing your trading strategy on what some person on the internet is saying, and I’m personally very against trading chat rooms. This is your own money and you should be doing your own DD. If you were going to be spending thousands of dollars on buying something, you would probably be spending hours doing your own research on which product to buy and pros and cons of buying something – this should be no different. I’ll post these for inspiration, and to help teach everyone reading how to do their own research, but this is by no means a recommendation on what you should do. Form your own opinions; it’s your money.

 

Disclaimer: This information is only for educational purposes. Do not make any investment decisions based on the information in this article. Do you own due diligence.

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