Jumpin' Jack Flash,
It's a gas gas gas
- The Rolling Stones, Jumpin' Jack Flash
Are we having fun yet? Financial markets are struggling to come to grips with 2008 so far, as price action across a number of markets has been erratic, to say the least. Attempts at timing the market from a quasi-fundamental perspective have been ill-fated, as anyone who traded in the aftermath of Friday's payroll figure can attest. Is the risk trade on or off? Are you making or losing money? If you don't like what you see, wait five mintues, and it will be all change.
What does seem clear is that the equity bears are coming out of the woodwork, sensing blood in US equities at the very least. And to be sure, the price action in the SPX has been pretty horrible. On a weekly line chart, the index has formed a fairly obvious head-and-shoulders pattern whose neckline is currently at 1428. A break below this level would project a move down to 1305.
However, it still seems rather premature to call the end of the equity bull from a technical perspective. After all, even if the neckline were to break (and Macro Man has been around long enough to avoid pre-empting that!) and reach its target projection, that would represent a peak-to-trough drawdown to 17.5%. To put that in perspective, the SPX registered a decline of 22.6% in July-October 1998. Eighteen months later, the index was 68% higher.
True, the fundamental backdrop is decidedly different today than it was then, not least because of inflation. And it may be the case that the fundamentals eventually argue in favour of lower stock prices. But to conclude purely on the basis of charts that the equity bull is over seems decidedly premature.
Macro Man remains struck by the degree to which housing remains a focus of commentators on US consumption. For fun, Macro Man searched his 2007 email archive for communications containing the word "housing." 1350 pieces of email turned up.....and these were the ones that escaped the automatic delete treatment! In contrast, searching for "gasoline", "fuel", and "petrol" yielded just 468 missives, despite an inherent selection bias (Macro Man is, relative to the market, more interested in fuel than housing.) Housing may have been the story of 2007, but on a purely macroeconomic basis it's nothing like three times as important as energy.
Indeed, Macro Man retains the view that the recent slowdown in household spending has more to do with rising energy prices than it does ARM resets or falling house prices. For fun, he decided to run a little study wherein he compared current US gas prices with those of the past 37 years. Sadly, high frequency data doesn't seem to exist before 1991; fortunately, the California Energy Commission has retained data on annual average gas prices in California from 1970-1990, as well as noting the spike high price of March 1981.
Macro Man compared today's price with history using two metrics; constant dollar prices, deflated by the headline PCE price index, and expenditure on gas and motor fuels as a percentage of total household spending. Unsurprisingly, there is a strong correlation between the two, given that demand is highly price inelastic in the short-medium run.
What's evident from the chart is that energy has presented a steadily rising headwind since 2003, with particularly acute shocks in 2005 and 2007. Between November 2006 and November 2007, the percentage of household spending going towards fuel gas risen from 2.8% to 3.6%. That's $80 billion out of consumers' pockets, comfortably more than aggregate impact of ARM resets. To be sure, housing has also had a wealth effect; Macro Man estimates that US households' equity in their homes declined by $309 billion in the 4 quarters ending in Q3 2007. Unless you assume that 25 cents out of every dollar on household equity is spent (WAY above the usual estimates of 4-5 cents on the dollar), the housing wealth effect also pales in comparison to the impact of energy.
What makes the rise in fuel spending interesting is that US gasoline consumption actually declined on a volume basis last year. Perhaps US consumers are finally adjusting their behaviour and eschewing Chevy Dreadnoughts in favour of fuel-efficient (and inevitably foreign-brand) rides?
For fun, Macro Man performed a back-of-the envelope calculation on what level of oil prices would send household spending on motor fuel back to the all time high of 5.2% of total spending. He calculated scenarios of annualized gas consumption of 115 billion gallons, 118 billion, and 124 billion. (As an aside, these numbers were purely backed out of the macro data, and may differ from the EIA estimates, which Macro Man could not locate.) The upshot is that nominal gas prices would need to rise to $4.20 (124 billion gallon consumption) to $4.50 (115 billion gallon consumption.) Assuming a crack spread of around 8, that translates to $130-$140/bbl on crude. 
It's a gas gas gas
- The Rolling Stones, Jumpin' Jack Flash
Are we having fun yet? Financial markets are struggling to come to grips with 2008 so far, as price action across a number of markets has been erratic, to say the least. Attempts at timing the market from a quasi-fundamental perspective have been ill-fated, as anyone who traded in the aftermath of Friday's payroll figure can attest. Is the risk trade on or off? Are you making or losing money? If you don't like what you see, wait five mintues, and it will be all change.
What does seem clear is that the equity bears are coming out of the woodwork, sensing blood in US equities at the very least. And to be sure, the price action in the SPX has been pretty horrible. On a weekly line chart, the index has formed a fairly obvious head-and-shoulders pattern whose neckline is currently at 1428. A break below this level would project a move down to 1305.
However, it still seems rather premature to call the end of the equity bull from a technical perspective. After all, even if the neckline were to break (and Macro Man has been around long enough to avoid pre-empting that!) and reach its target projection, that would represent a peak-to-trough drawdown to 17.5%. To put that in perspective, the SPX registered a decline of 22.6% in July-October 1998. Eighteen months later, the index was 68% higher.
True, the fundamental backdrop is decidedly different today than it was then, not least because of inflation. And it may be the case that the fundamentals eventually argue in favour of lower stock prices. But to conclude purely on the basis of charts that the equity bull is over seems decidedly premature.
Macro Man remains struck by the degree to which housing remains a focus of commentators on US consumption. For fun, Macro Man searched his 2007 email archive for communications containing the word "housing." 1350 pieces of email turned up.....and these were the ones that escaped the automatic delete treatment! In contrast, searching for "gasoline", "fuel", and "petrol" yielded just 468 missives, despite an inherent selection bias (Macro Man is, relative to the market, more interested in fuel than housing.) Housing may have been the story of 2007, but on a purely macroeconomic basis it's nothing like three times as important as energy.
Indeed, Macro Man retains the view that the recent slowdown in household spending has more to do with rising energy prices than it does ARM resets or falling house prices. For fun, he decided to run a little study wherein he compared current US gas prices with those of the past 37 years. Sadly, high frequency data doesn't seem to exist before 1991; fortunately, the California Energy Commission has retained data on annual average gas prices in California from 1970-1990, as well as noting the spike high price of March 1981.
Macro Man compared today's price with history using two metrics; constant dollar prices, deflated by the headline PCE price index, and expenditure on gas and motor fuels as a percentage of total household spending. Unsurprisingly, there is a strong correlation between the two, given that demand is highly price inelastic in the short-medium run.
What's evident from the chart is that energy has presented a steadily rising headwind since 2003, with particularly acute shocks in 2005 and 2007. Between November 2006 and November 2007, the percentage of household spending going towards fuel gas risen from 2.8% to 3.6%. That's $80 billion out of consumers' pockets, comfortably more than aggregate impact of ARM resets. To be sure, housing has also had a wealth effect; Macro Man estimates that US households' equity in their homes declined by $309 billion in the 4 quarters ending in Q3 2007. Unless you assume that 25 cents out of every dollar on household equity is spent (WAY above the usual estimates of 4-5 cents on the dollar), the housing wealth effect also pales in comparison to the impact of energy.What makes the rise in fuel spending interesting is that US gasoline consumption actually declined on a volume basis last year. Perhaps US consumers are finally adjusting their behaviour and eschewing Chevy Dreadnoughts in favour of fuel-efficient (and inevitably foreign-brand) rides?
For fun, Macro Man performed a back-of-the envelope calculation on what level of oil prices would send household spending on motor fuel back to the all time high of 5.2% of total spending. He calculated scenarios of annualized gas consumption of 115 billion gallons, 118 billion, and 124 billion. (As an aside, these numbers were purely backed out of the macro data, and may differ from the EIA estimates, which Macro Man could not locate.) The upshot is that nominal gas prices would need to rise to $4.20 (124 billion gallon consumption) to $4.50 (115 billion gallon consumption.) Assuming a crack spread of around 8, that translates to $130-$140/bbl on crude.Now, Macro Man does not purport to be any sort of energy expert, and he really is not qualified to pontificate on issues like peak oil. What he does know, however, is that energy prices matter-and matter a lot- to US households. Macro Man read with interest that Honda is set to debut the FCX hydrogen fuel cell car into commercial use in Southern California this year. Production costs are currently prohibitive, and Honda reckons it would take another decade to put the car into mass market production.
But given the seemingly inexorable rise in oil prices, and that the only emission from the FCX is, er, water, what odds that this vehicle is the future of the automotive industry (and that Detroit will utterly miss the boat)? An interesting long-term play might be to figure out how to invest in the people responsible for building hydrogen filling stations/and or storage facilities. It all sounds like science fiction today; then again, 20 tears ago, so did most of the features on Macro Man's (free) mobile phone.
12 comments
Click here for commentsWell, the natural gas used to produce hydrogen (albeit in California solar energy hydrolysis would probably work as well) does produce CO2 - the question is what's more energy efficient.
ReplyAdditionaly, H is extremely dangerous. This natural gas x10... I'd not want to be in an H car that just crashed - all those Holywood scenes of exploding cars might actually happen (as opposed to a car running on gasoline, which are actually quite unlikely to explode). That's why I prefer on-demand fuel cells to a tankfull of hydrogen.
On an off-note, I'd like to see what would happen if we converted all the cars to H - namely what effect that extra generated moisture would have on our athmosphere :)
Vlade, sorry if I wasn't clear; it is a (hydrogen-based) fuel cell, which reportedly is less combustible than gasoline. POint taken on the energy required to create the H to begin with; this is not a completely clean solution. Still....can you see a scenrio 50 yrs into the future where a hydrogen fuel cell car emits water...which is then reprocessed to extract hyrdorgen, leaving O2 as the only emission?>
ReplyIn the meantime, surely these vehicles are the solution to the droughts caused by climate change; they should be a sure winner in Australia! ;)
What this very anomalous bull in developed markets has lacked throughout its long life, M, has been widespread retail participation as well as real enthusiasm on the part of value investors. What it hasn't wanted for has been stability from the proliferation of hedged and pair mathematical strategies and an upward bias from private equity and the undiscriminating 'float all ships' of long ETF's.
ReplyRemove program strategies from the mix because risk is now being calculated differently (and don't expect them to reappear quickly if only because designers now have to deal with several years of tainted data from which the backing out their own shadow would be appropriate) and take private equity out for the meantime because of credit issues and we're left with value/retail.
Unless one thinks that pure punters will come out in force in an economic downturn, the appropriate bet might be downhill. Large wouldn't surprise, although I won't stick my neck out that far.
As an aside, my gut feeling about the 1997-2003 period is that it is, to the extent that I believe that there is information in price movements, so unusual as to be near useless - six years reduced to an anecdote.
MM,
ReplyPower generation is my game, and producing H2 will be a tough nut to crack economically. It takes electricity to extract the H from H20 and it takes oil or gas (or nuclear or coal, if the environmentalists lay down and die), to generate the electricity. If you did have H, a normal internal combustion engine can power the vehicle without the need for a $100,000 fuel cell. The purpose of the fuel cell is to extract the H from other compounds, specifically natural gas.
Both UTC's and FCE's commercial fuel cell products use natural gas as the base source of btu's for generating electricity. Consumption efficiency is in the mid 40% range which is slightly better than a 35% internal combustion engine, and the output is clean instead of dirty.
Fuel cell cost is another issue, at least at this time. A 250 kW fuel cell costs $900,000 to buy; a 250 kW diesel runs about $75,000. I expect the prices to be more in line in the future, but at the present time, without government incentives, it just ain't worth it.
The goal of reducing our need for hydrocarbons can best be met with nuclear. It is painful to say, but it is the only technology on a 50 year horizon that is even close to meeting the enormous energy needs of this planet.
If the goal is clean air, electric vehicles and their variation that are refilled from charging stations are the answer. The electricity for these vehicles is produced in highly treatable power plants that are 70% efficient. But those electrons will always cost you and I more than anything that runs on gasoline.
Fringe technologies (wind, solar, ethanol, hydro, wave motion, etc.) will always remain on the fringe until the cheapest forms of energy (oil, gas, coal) on this planet are consumed.
Regarding peak oil, I am not an expert on this subject at all, but I was a young twerp fresh out of college in the mid 1970's who embraced the experts' opinions that the world was going to run out of oil by 1990. This time around, I put myself in the skeptic's camp.
Big John
Clean hydrogen power will never happen. "Still....can you see a scenrio 50 yrs into the future where a hydrogen fuel cell car emits water...which is then reprocessed to extract hyrdorgen, leaving O2 as the only emission?"
ReplyThe "reprocessing" would involve burning a lot of coal to generate the electricity needed to remove the H from the 02. Or perhaps a chemical solution (as yet undiscovered?) that would produce some other byproduct?
TANSTAAFL!
There ain't no such thing as a free lunch!
The H-based fuel cell just makes the environmentally harmful emissions elsewhere rather out the tailpipe.
Still, NYC is much cleaner today than it was 100 years ago, with thousands of tons of horse manure on the streets and filling the sewers, polluting the water supply. No?
"Fringe technologies (wind, solar, ethanol, hydro, wave motion, etc.) will always remain on the fringe until the cheapest forms of energy (oil, gas, coal) on this planet are consumed."
ReplyGotta disagree strongly here.
The stone age didn't end for a lack of stones.
CB, I'd suggest that the micro-volatility world of 2003-2006 was the anomaly, not the preceding six seven years.
ReplyAs for hydrogen fuel cells, I freely confess that I know next to nothing about them. I gather the production cost for the FCX is about $1 million per car...hence the ten year timetable Honda puts on mass production.
I do know, however, that "never" is an awfully long time, and I'll take the under when it comes to commercial viability of hydrogen fuel cells. (The bit about a perpetual auto machine was half tongue in cheek, btw)
Here's the EIA data on gasoline sales:
Replyhttp://tonto.eia.doe.gov/dnav/pet/hist/a103600001m.htm
Looks like 2007 is tracking under 2006. But then again, the last three years have been somewhat weak.
Solar and wind energy sources can also be used to produce electricity for electrolysis on site. The hydrogen produced can be stored and/or transported with little energy loss.
ReplyYes, gasoline and hydrogen gas are explosive, but this engineering problem can be solved.
Trader Walt
M,
ReplyI agree. I just couldn't bring myself to kick 10 years out the door with one boot. I base my case, BTW, on the assumption that one should expect a certain minimum degree of agreement on what an asset is worth over any short-term in generally upward markets. This is to say that bouts of hedging against the possibility that one might not make money - otherwise known as 'panic buying' - are relatively rare, generally short-lived and usually come in the wake of bear spells. Another exception would be the year and some long runup to Black Monday - mesmerizing to watch the entire thing play out, but maybe telling you as much about repeatable market behaviour as the two-headed boy at the circus can concerning individual liberty.
what do you use to chaion your fuel data - if it is a government reported rate, it is wrong.
ReplyAlso not being an energy expert:
ReplyAll hydrocarbons are just refined and stored solar energy, after all. And there are many promising developments in this field right now.
Atomic power will not save the day, because of the lack of uranium - there is a good resaon for tremendous uranium bull in recent years.
imho, the most real and potentially profitable energy source to invest is solar.