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I don’t want to brag (who am I kidding, of course, I do!) but last week, with WTI holding just above $40, I predicted that a significant drop was coming. That was on Friday, and here is the chart for the main crude oil futures contract, CL, since Monday…
The three factors that I highlighted in that piece, a weak economy prompting demand fears, political uncertainty, and over-supply, all combined to cause the initial move down. However, those losses (or gains for those of us that were short or trading with a short bias) were added to significantly last night as the news broke that Donald Trump has tested positive for Covid-19.
Given just how Trump has divided America, overreaction to that news at both ends of the political spectrum is to be expected. There will be some who cynically and heartlessly delight in the President’s misfortune. Meanwhile, those that have been denying the very existence of Covid-19 or maintaining that it is all some Democratic hoax will undoubtedly dig deeper into their conspiratorial holes. For them this will all be part of some Deep State plot to take over the government.
That is, as I said, to be expected. What is a little more surprising, though, is that crude oil lost a couple of bucks after the story broke.
After all, markets are supposed to be apolitical, and a commodity like oil is supposed to trade on the fundamentals of supply and demand, right? It is hard to see how Trump’s health can…
I don’t want to brag (who am I kidding, of course, I do!) but last week, with WTI holding just above $40, I predicted that a significant drop was coming. That was on Friday, and here is the chart for the main crude oil futures contract, CL, since Monday…
The three factors that I highlighted in that piece, a weak economy prompting demand fears, political uncertainty, and over-supply, all combined to cause the initial move down. However, those losses (or gains for those of us that were short or trading with a short bias) were added to significantly last night as the news broke that Donald Trump has tested positive for Covid-19.
Given just how Trump has divided America, overreaction to that news at both ends of the political spectrum is to be expected. There will be some who cynically and heartlessly delight in the President’s misfortune. Meanwhile, those that have been denying the very existence of Covid-19 or maintaining that it is all some Democratic hoax will undoubtedly dig deeper into their conspiratorial holes. For them this will all be part of some Deep State plot to take over the government.
That is, as I said, to be expected. What is a little more surprising, though, is that crude oil lost a couple of bucks after the story broke.
After all, markets are supposed to be apolitical, and a commodity like oil is supposed to trade on the fundamentals of supply and demand, right? It is hard to see how Trump’s health can have any bearing on either the demand for or supply of crude, but the correlation between the news and a big drop is undeniable.
Of course, the problem is that we don’t live in a theoretical world. In practice, the oil market has, for a very long time, preferred the prospect of a Republican President to that of a Democrat. I say “prospect” for a reason. Since 1945, as this Forbes piece demonstrates, the U.S. stock market and economy have done much worse under Republicans than Democrats.
That disparity seems to be mainly for two reasons.
The first is that, since 1945, there have been a whopping ten recessions during periods when Republicans were President, as opposed to only two under Democrats. Now, you can claim with some justification that has nothing to do with their political party. I mean, did the housing crisis and subsequent crash in 2007/8 happen because George W. Bush was a Republican?
Of course not, but that just shows how ridiculous the reaction of markets in both stocks and crude oil were to last night’s news. If you argue that those economic events weren’t related to party, then nor are any others. The only logical conclusion is that which party is in the White House is simply irrelevant.
And yet, when the news came out, the markets dropped on the assumption that, even in the best-case scenario, it takes Trump off the campaign trail for at least two weeks and raises further questions about his decision making in the face of a global pandemic. If he can’t act sensibly to protect himself, the argument goes, how can he act sensibly to protect the country?
That increases the chance of a Biden victory next month, and that is what prompted the market reaction.
That is nothing new though, and therein lies the second reason for market overperformance under Democrats. Despite all the evidence, traders still sell when it looks like a Democrat will win or immediately following an election where that happens. As a result, Democrats usually start their terms with markets undervalued with respect to economic conditions.
Nor does the “Biden is anti-oil” argument hold up any better when looked at logically. First, his previous boss, Barack Obama, was much more of an environmentalist than his voting records indicate Joe Biden is, but the oil industry thrived under him, at least in terms of output.
Second, what are the likely early policy manifestation of any anti-oil-industry stance from a Biden administration? They will probably restrict drilling on federal land and may delay or even close some pipelines. They could increase regulations on fracking operations, too. All of those things, though, would restrict supply, so when you combine that with the evidence above that a collapse in demand is less likely under a Democrat than a Republican, how can selling oil on the increased chance of a Biden win make any sense?
It really doesn’t, but it came anyway.
In the short term though, If I can see that the initial selloff is probably an overreaction, so can others, and that is why taking a profit on short CL position early this morning is smart. A short-term retracement of that move looks likely. However, the long-term trajectory of the market depends on the duration and severity of Trump’s infection.
If it is short, with few ill effects, his argument that we should all be getting back to normal will be strengthened, and that will be a big positive for oil. If not, or if the worst happens and Trump dies, the political chaos alone will cause a major selloff in both crude and stocks, probably around the world.
The next move in crude is therefore dependent on something completely unpredictable, the impact of Covid-19 on a 73-year old with other comorbidities. Whichever way we go though, it will presumably be a major, sustained move, so you will have plenty of time to join in when it comes.
That’s why, for now, the best advice I can give to oil traders is to square up and wait.
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