A Trickle and a Squeeze

Not investment advice.

Long week, brief note.

1. An oil shock is a growth/inflation shock. Money that went to spending now goes to energy. In Los Angeles, where I was traveling this week, gas was well over $5 a gallon. Core inflation won’t move much, but growth will slow. This is not discounted in bond markets (many of which are pricing tightening), the most expensive equity markets, or certain commodity markets, like copper.

2. Negotiations are underway and China’s involvement, even if indirect, is important and tilts the scales toward resolution. China’s influence is also a sign that global power is shifting rapidly. China’s capital markets look like a sea of calm compared to turbulence elsewhere. Negotiations will perhaps go until the very last day and maybe beyond. Relatively soon, however, it gets too hot for a ground invasion. Troops can’t fight in 120-degree weather.

3. Partial closing of the Strait has already created high enough prices to incentivize shifts in behavior, from rerouting oil-carrying boats from the US Gulf Coast to Asia or bilateral deals between Japan and Iran or outright demand destruction. The data we are getting on oil flows is also lagged because some ships are turning off their transponders and then turning them back on once they are clear of the Strait. There is only hard evidence of a few ships paying tolls, so precision about the exact oil flows is not possible. It looks like a trickle.

4. While the oil shock will hurt growth in aggregate, it is a bonanza if you own a ship that can move oil from America to Japan, or a refiner in a country that is not being attacked. Ditto refiners and many others in the commodity complex, as long as the government does not impose sudden taxes on their profits. That’s more likely in Europe than the US.

5. The initial oil shock dislocated tech stocks, and the last week has seen investors scrambling to get back in, forcing those short to cover, what’s known as a short-squeeze in the business. Year-to-date, the Nasdaq is still negative.

6. The initial reaction to the war was dollar positive because of a big unwind of holdings of non-US exposure. That has now faded and the dollar looks once again vulnerable. The US imports capital and is now exporting people. Not a good mix.

7. Trump has been in office 445 days and has 1,011 left. Any portfolio needs to have certain positions (like different structures on oil) that benefit if we go completely over the edge, even if the most likely outcome is that we don’t.

8. The practical consequences of kinetic action has produced deleterious enough results (measured in casualties in Russia and Ukraine or the price of oil everywhere else) that it may usher in something, as yet not fully evident, different. The rules-based order was created after the chaos of the 1930s and 1940s and the advent of nuclear weapons. Perhaps the current, so far less severe, chaos inspires a similar counter-reaction. Drones have fundamentally shifted the playing field. My plan is to remain liquid, adjust as I get new information and pounce on dislocations.

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