November tends to be "year-end" for some institutions and hedge funds, hence one can typically expect some profit-taking into the Thanksgiving weekend, which can be the last weekend of the month. The winners and related themes tend to get hit as a they are sold down against the underperformers that tend to rally as the shorts are covered. But this phenomenon is purely technical, not fundamental.
This year, however, the selloff was more extreme and themes more dislocated. Is it really just about Omicron, the new Covid strain?
We all know how the media loves to fit a narrative to a move, without actually trying to understand what caused it in the first place. What is even worse is that most sell-side analysts justify that narrative to temper their calls that are now 20% offside.
Brent Oil was trading closer to $85 a barrel in the first week of October, and every single analyst, including at powerhouses such as Goldman Sachs and Bank of America/Merrill Lynch were calling for super cycles and prices going up to as high as $120-$200/bbl. The world running out of oil essentially.
As is often the case, most assume the demand of the past stays constant and is extrapolated well into the future, rather than analyze how patterns and seasonality changes that demand behavior over time. Oil is a seasonal commodity and one that is certainly not in any deficit. It may be during any given short period of time depending on the time of year, but there is no shortage no matter how much disinvestment there has been.
This summer, oil prices benefited with U.S. shale permanently losing its 2mbpd of oil production post Covid coupled with Covid-induced stimulus that caused demand to surge at a time when OPEC+ was clearly managing the price of oil by releasing their barrels slowly. It was a confluence of the best conditions for oil.
Alas, we got the calls for oil running out and squeezing to $120+ before winter had even started. Of course, if we did get very cold weather, OPEC+ decided to keep supply constant, and global demand was sky rocketing and economies opened up, sure, that could very well be the case. We know China had been slowing down after the summer debacle with Evergrande. When China sneezes, the whole world catches a cold (no pun intended).
Meanwhile, we have just come out of 18 straight months of central bank largesse and QE on tap. That gravy train is coming to an end as inflation is a huge concern for financial markets.
We are averaging CPI closer to 6-8% year over year. Inflation is certainly not transient, and some parts are more secular, which central banks have admitted to. After more than $30 trillion of stimulus, global GDP growth is slowing down.
One wonders how much money central banks will need to print the next time there is a hiccup as clearly the zeros do not matter to them. This market has been driven by liquidity, and now the pace of that liquidity is slowing down, receding even in some cases. The big question is can asset prices survive without this constant liquidity addition.
Rates, bonds and volatility had been showing distress for some time now. As usual, equities are the last ones to react as they tend to be pushed and pulled by everyone. The Omicron strain that appeared right on the Thanksgiving Friday, an illiquid trading day, was just a trigger that accelerated the process that was already unravelling the themes of the past year. Brent Oil had been weak prior to it and stalling. It fell 11% that day and is now down 20% since its highs in October.
The Omicron strain needs time to be studied but for now it seems to less deadly even if more infectious. Governments cannot afford to go into lockdown as it will obliterate their economies and the Fed cannot print anymore right now as inflation is their nemesis. As growth is stalling and liquidity receding, these assets were losing their momentum to begin with after their stellar performances over the past year.
Commodities are all about demand vs. supply balances. It is easy to see the supply, but most do not do enough work on the demand side. Therein lies the problem as we go from one extreme to another and the sell-side plays catch up always after the move, not benefiting their clients who bought at the top when no tail risks were priced in whatsoever.
It is all a timing game and this has all been just one big macro trade, whether we like to believe it or not.
