The Sharp Declines in Oil Prices Will be a Drag On Energy Prices

By | March 16, 2020

Welcome to FTR’s “Monday Morning Coffee “ blog. The following article is designed to keep busy executives up to date with the latest economic data releases. Released every Monday, this blog promises to keep our clientele updated with the latest weekly economic news and developments, highlighting its impact on the transportation, freight, and equipment markets. Hopefully, this will be an informative addition to the fine body of work associated with FTR.


Coffee and Economic Review

World stocks were set on Friday for the worst week since the 2008 financial crisis, with coronavirus panic selling hitting nearly every asset class. The MSCI world equity index, which tracks shares in 47 countries, hit a three-year low in Asia hours and was down 16% this week so far. It was the worst run since October 2008 when Lehman Brothers’ collapse triggered the global crisis. “Markets are quite prepared for a period of falling output. The real fear is that you get second-round effects that result in a nastier, longer recess in the global economy,” said Investee economist Philip Shaw. ‘That is going to be very difficult to escape given the monetary pedal is very close to the floor in many jurisdictions.” There was a slight recovery late in the day as central banks from the United States to Australia pumped liquidity into their financial systems and hopes grew that both political parties could pass a stimulus package.

Wall Street raged a furious rally in the waning moments of the trading session on Friday after U.S. President Trump declared a national emergency to combat the rapidly spreading coronavirus, although major averages still suffered sharp losses for the week. In a volatile session, all three major indexes umped more 6% before paring to as little as 0.55% on the S&P before rallying towards the close as Trump made the announcement with industry leaders of about $50 billion in federal aid to fight the disease. The indexes were still down about 20% below record highs hit in mid-February and each saw losses of at least 8% for the week. Next week will be interesting. The Federal Reserve can’t cure the coronavirus but the markets are expecting on Wednesday another 75 to 100 basis rate cuts. The markets may feel better if there is a sense someone is in charge with rate cuts and providing more liquidity. On the other hand, a presumption of less affective measures will hurt market confidence.

Economic data last week took a back seat to financial market developments. Equities officially entered a bear market, with the S&P 500 index down more than 20% from its all-time high. Thursday saw a 9.5% drop, the steepest one-day drop since “Black Monday” in 1987. Meantime, both investment grade and high yields credit spreads widened to the highest levels since early-2016. This signals that investors expect more stress in the corporate sectors. Financial conditions are the tightest they have been since the global financial crisis. Driving the stress is the rising toll of the coronavirus. New cases are rising and extreme measures to curtail its spread are occurring across the nation. Major business and sporting events are cancelled and schools are being put on temporary shut downs. A number of companies most directly affected by the virus have reportedly started to draw on credit-facilities, marking strains in activity that less timely economic data have not yet captured. At the same time, details of any fiscal response are slow to emerge. On Thursday, the Fed stepped up its repo offerings to help calm liquidity concerns and announced its previously planned $60 billion of “reserve management” Treasury purchases would be conducted across maturities and not just T-Bills.

The Fed is likely to cut the fed funds rate by 100 basis points this week. That action, and the fiscal policy responses could provide a floor for the financial markets. However, there are many unknowns, including the economic damage from a potential consumer response and the effects of curtailed quarantines on economic activity. If China is an example, the virus peaked in late-January and economic activity started back in earnest by the end of February. Any parallel with the U.S. would depend on containment efforts and we are far from forecasting a time-line until more data is released.

Last week, there was no reason in terms of price stability. The Producer price index fell 0.6% in February, following a 0.5% advance in January. On a year-ago basis, the PPI for final demand is up only 1.3% and core goods are up 0.5%. The consumer price index only advanced 0.1% in both February and January. The sharp declines in oil prices will be a drag on energy prices the next few months. The modest increase in inflation won’t help personal spending since the consumer will be at home the next few weeks. Jobless claims through the first week of March have given no signs of the labor market unraveling so far. That could change in coming weeks. There could be a noted slowdown in hiring also in coming weeks.

Next week, we get a look at retail sales, industrial production, housing starts and permits and existing home sales. Economic data is, of course, dated and won’t reflect the effect of the virus yet. Coming reports are likely reflect some distortions.

Latest Data

The U.S. Economy:

Small businesses were feeling confident before the COVID-19 outbreak. The NFIB small business Optimism Index increased 0.2 to 104.5 in February. However, responses were collected before the virus worsened outside of China. Details were mixed. Plans to increase employment increased to 21% from 19%. Expectations to increase capital expenditures slipped from 28% to 26%. Expectations that the economy will improve in the next six months increased from 14% to 22%. Job openings were about the same, rising from 37% to 38%. Leisure/hospitality are and travel industries are being hit. The next report might be more telling as the COVID-19 virus is a threat for small businesses and economic expansion. The Small Business Administration did receive $20 million out of the $8.3 billion to help small businesses. There may be more help in the pipeline. How small businesses react the next few months may be critical for the economy.

The producer price index fell 0.6% in February, reversing the 0.5% gain in January. The PPI for goods fell 0.9%, as energy and goods prices dropped. The PPI for services fell 0.3%, reversing some of the 0.7% gain in January. On a year ago basis, the PPI for final demand was up 1.3% and core goods was up 0.5%. Consumer prices rose 0.1% in February. The CPI for food rose 0.4%, while energy prices fell 2% The core CPI rose 0.2%, matching January’s gain. On a year ago basis, the CPI was up 2.3% and the core index 2.4%. The rise in inflation will not stop the Federal Reserve from lowering rates. Although COVID-19 is a supply shock that has shook global supply chains and negative supply shocks are inflationary in nature, financial markets view COVID-19 as a demand shock, which is disinflationary. Also putting downward pressure on inflation is the impact of falling oil prices. This oil war is not good for energy producers, so some arrangement is likely when COVID-19 starts to fade and economic activity starts to rebound.

Important Data Releases This Week

The February retail sales report will be released on Tuesday, March 16 at 8:30 AM. We expect retail sales to have increased 0.2% in February, following four consecutive months of increasing 0.3%. Future spending could be a blow-out given anecdotal evidence of unavailable parking and longlines at grocery stores. There are shortages of things like toilet paper. It is hard to get a handle on the extra spending at general merchandise stores versus cancelled event and travel spending. In the long-run, consumption is likely to head lower in coming months.

The February industrial production report will be released on Tuesday, March 16 at 9:15 AM. Industrial production fell 0.3% in January but there were signs of manufacturing stabilizing before the virus hit China and affected global trade. With potential shutdowns of businesses, the effect on production could be significant in coming months.

February housing starts will be released on Wednesday, March 18 at 8:30 AM. Housing has been on a roll, with starts rising to a 1.567 million. Low mortgage rates should support housing in coming months after the effects of the virus has passed.

February existing home sales will be released on Friday, March 19 at 10:00 AM. Existing home sales fell in February but not for a lack of buyers. The problem in this market is lack of supply. The problem here is what is the effect of the drop in the equity markets on consumer confidence.

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About Steve Graham

Steve is one of the premier analysts in the transportation equipment industry. On a monthly basis Steve tracks and analyzes in detail the trailer and heavy-duty truck industry. Aside from following these two sectors he is also instrumental in helping our customers analyze the economy and its impact on transportation and transportation equipment.