Will The Federal Reserve "Blink" At Its Next FOMC Meeting?

At its December 2015 FOMC meeting, the U.S. Federal Reserve raised interest rates for the first time in almost a decade. While this first hike was only 25 basis points, post-meeting comments from FOMC voting members suggested that eight more 1/4-point hikes would be forthcoming over the next two years.

The U.S. stock market, as measured by the S&P 500 Index, fell sharply in the first three weeks of this new year. If we start with the closing year-end 2015 level of 2043.29 and then compare it to the January 20th intra-day low of 1812.29, the decline was 11.3%. And if we measure the January 20th intra-day low against the May 21st, 2015 all-time high in the S&P 500, then the decline was 15.1%. I don't think it's a stretch to conclude that at least some of investor concerns this year so far have been related to the actual and apparent expected tightening of monetary policy by the Federal Reserve. Don't fight the Fed? Isn't that the best investor advice ever written in the shortest possible words?!! Of course, maybe the collapse in crude oil prices had something to do with the collapse in U.S. stock prices, or lower economic growth in China, or the warm December weather, or the cold January weather. Pick your poison? Maybe it's Donald Trump's fault? You're fired!

I don't think it really matters why U.S. stock prices caved from January 4th through the morning of Wednesday,  January 20th. What matters is where do we go from here? My computer trading system indicates that U.S. stock prices are going higher from here. The rebound from Wednesday's intra-day lows has been meaningful, and I don't think this rebound is a "dead cat bounce". However, right now my own long positions only include energy, commodities, steel, and precious metals stocks. I recently read that over the last six years the best strategy has been to buy the general market (SPX) one week before each FOMC meeting and sell one week after each FOMC meeting. I was stunned by the results in this report. The "buy & hold" portfolio earned about 12% annually while the FOMC "two week" holding period strategy yielded more than double the buy & hold result. I think it's interesting that the U.S. stock market bottomed on Wednesday, January 20th, one week prior to the FOMC meeting this coming week. My best forecast here is that U.S. stock prices will be higher at least through the end of this month and maybe even for a couple of days in early February (consistent with the FOMC trading strategy of buying one week before each meeting and selling one week after each meeting)..

In my last blog dated Sunday, January 17th, I predicted that crude oil prices would bottom out early this past week and that prices would not stay below $30 a barrel for very long. For now, this looks like a pretty decent call. Of course, when prices were collapsing early Wednesday, my energy positions were testing my patience to the limit. However, the rebound in energy prices late Wednesday, Thursday, and Friday was nothing short of spectacular! One of my energy stocks, SM Energy (SM), actually rebounded 60% from Wednesday's intra-day low to Friday's intra-day high! My simple view here is that WTI Crude Oil prices will probably not trade significantly below $30/barrel for the remainder of 2016. $40/ barrel is a reasonable forecast for the current rebound over the near term (120 days), but I suspect prices will overshoot on the upside at one point in 2016. 

While Gold and Silver are among the few winning positions so far in 2016, with gains of 3.4% and 1.4% respectfully so far in January, most of the precious metals mining shares have been poor performers. While I am not sure why gold/silver mining shares have been weak (except ABX & AEM), It's not hard to imagine that the specter of four interest rate hikes this year from the U.S. Federal Reserve and the resulting positive impact of higher U.S. interest rates on the U.S. Dollar may have investors in the precious metals arena just a little bit nervous (understatement!). But what if the Fed backs down this coming Wednesday from its hawkish stance as signaled following its last meeting in December 2015? What will happen to gold and silver prices when investors realize that the U.S. Federal Reserve is NOT going to raise interest rates in 2016, and it may even lower them! And if U.S. economic results continue to disappoint, could the Federal Reserve actually initiate another round of "quantitative easing" (QE4)? For gold and silver prices to rally sharply, all that has to happen is for the FOMC to decide this coming week that maybe four rate hikes this year are off the table for now. While the Fed probably won't announce this action definitively, it probably will convey a much more dovish monetary stance, and gold, silver, and related investments will then surge sharply higher!

Bottom line:

1. The U.S. Dollar looks vulnerable to a major correction

2. Gold and Silver prices look ready to breakout on the upside

3. Gold and Silver mining shares look historically cheap right now

U.S. Dollar Index Daily Chart with Computer-generated Buy & Sell Signals

U.S. Dollar Index Weekly Chart with Computer-generated Buy & Sell Signals

Barrick Gold (ABX) Daily Chart with Computer-generated Buy & Sell Signals

Major Gold Miners Index (GDX) Daily Chart with Computer-generated Buy & Sell Signals

Russell 2000 Index Daily Chart (RUT) with Computer-generated Buy & Sell Signals

Russell 2000 Index Monthly Chart with Computer-generated Buy & Sell Signals

Where Is The Bottom In Crude Oil Prices?

After falling 35% in 2015, crude oil prices are down another 20% so far in 2016. Price action in the futures market this past Friday (01/15) could be described as a selling climax, but the rebound from intra-day lows was probably less than bulls may have hoped for. My own view is that crude oil prices will not trade significantly below $30/barrel for any extended period and that a meaningful rally will begin very early this coming week. I further believe that prices will soon rise above $30/barrel to begin a sustained advance to at least the $40/barrel area.

Much has been made in the financial press of the "flood gates" now open for Iran to add to current global surplus of oil production relative to demand, following the official lifting of sanctions yesterday. There is a widely held view that Iran will immediately add 500,000 barrels per day to global production on the open market, and within 12 months this number will be close to 1,000,000 barrels per day. While I am skeptical of these forecasts, few would argue the fact that this is the widely held consensus view right now.

"Buy the rumor, sell the news!" is a well known trading strategy often used by successful traders. I see the lifting of sanctions on Iran as the exact reverse in terms of timing the bottom in crude oil prices. In other words, we all should have been shorting crude oil on the expectation of the lifting of sanctions against Iran. However, now that sanctions have actually been lifted, shorts need to be covered and new longs established. I am not an oil trader, but this makes sense to me.

Here are a few noteworthy items from the last couple of days relating to crude oil prices:

(1) Jeff Currie, Head of Commodities Research at Goldman Sachs, has been among the most vocal bears on crude oil prices over the last year. Despite skepticism from me in a column several months ago, his incredible forecast of a $20 handle for oil has clearly been met, and his views relating to this particular commodity market must be respected. On Friday, Mr. Currie indicated that crude oil prices may be close to a bottom and that the expected rebound would take prices back to the $40/barrel area by June 2016. 

2. Russia, the world's largest producer of oil and the world's second largest exports at 7.3 million barrels per day in recent months, appears ready to curb production (for a number of different reasons). The Russian "state-owned" oil-pipeline monopoly Transneft said on Friday that Russian companies are likely to cut crude shipments by more than 6% over the course of 2016. This translates into a cut of almost 500,000 barrels per day which represents about 1/3 of the daily excess supply on the global market right now. Since Saudi Arabia has been consistent in its policy statements over the past year that it will NOT reign in production without cooperation from other major Non-OPEC producers to do the same, does Russia's announcement on Friday qualify? In other words, will Saudi Arabia finally curb production (or at least change its bearish rhetoric) in response to the latest Russian comments from Transneft?

3. Today, Bloomberg news reported that Saudi Oil Minister Ali al-Naimi said that crude oil prices will rise and he now foresees that market forces and cooperation among producing nations will lead to renewed stability. "I am optimistic about the future, the return of stability to the global oil markets, the improvement of prices and the cooperation among the major producing countries," al-Naimi said. Saudi Arabia currently produces 10.25 million barrels per day, up 750,000 barrels per day over the past year. Could these comments by Saudi Oil Minister Ali al-Naimi be an immediate "game changer" in the oil markets?

4. In the latest PIMCO "Economic and Market Commentary" blog, dated January 15th, Greg Sharenow makes a solid case for the end of the current downturn in crude oil prices, and perhaps even a compelling case for a decent rebound immediately ahead. Mr. Sharenow says that refinery margins remain robust given incredibly strong demand for gasoline and jet fuel. He also points out that spreads between short-term and long-term crude futures contracts are narrowing, which is apparently bullish. When there is demand weakness or an oversupplied market, usually the nearby contract declines more than the longer term contracts (a widening in spread prices). And most interesting to me from Mr. Sharenow's blog is the fact that WTI crude is now priced higher than Brent crude which has NOT been the case, on balance, since 2010. The reason for this is related to the fact that domestic U.S. onshore production has declined by at least 600,000 barrels per day in the 7 months ending October 2015. And since the data here is available only through October 2015, this production decline is probably significantly higher if we include results from November, December, and January (which have yet to be published).

In the interest of full disclosure, I currently have a 30% portfolio allocation to energy stocks. And if one of my stocks is any indication (SM Energy with a 22% short interest), there may be extreme levels of bearish sentiment by often-wrong investors in this space. Also in the interest of full disclosure, I now have a 40% allocation to a diversified portfolio of gold and silver mining shares. As you can see from one of the charts below, the benchmark Philadelphia Gold/Silver Stock Index (symbol XAU) is now at its lowest level since the year 2000 when gold was priced at $250/oz as compared to its current price near $1,090/oz. Is there value in the mining space right now? I believe that current share prices in the precious metals mining sector now represent what may very well be a "generational" buying opportunity! Unfortunately, for me to be right here, the U.S. Dollar needs to retreat significantly in foreign exchange dealings against most major currencies. Fortunately, my research now indicates that the Greenback is ready for a major downside correction as foreign exchange traders soon begin to realize that the U.S. Federal Reserve will NOT raise interest rates in 2016, and it may even CUT RATES in response to rapidly deteriorating U.S. and global economic data.

Postscript written Monday, January 18th at 11:00 AM CT:

In the latest data released by the U.S. Commodity Futures Trading Commission, for the week ended January 12th, speculator short positions in WTI Crude Oil futures surged 15% to the highest in records dating back to 2006. Net long positions fell to the lowest in more than five years. I view this massive one sided bet as the single best technical indicator that crude oil prices are about to rebound sharply.

Oman is now the first major non-OPEC oil producer to say it would slash its output in coordination with other countries. This morning, Oman's Oil Minister Mohammad bin Hamad al-Rumhy announced that Oman is ready to cut its total crude oil production by 5% to 10% in order to help stabilize prices.

Other OPEC and Non-OPEC producers are soon likely to follow the lead of Russia and now Oman in announcing planned cutbacks in crude production! Can a major rebound in crude oil prices be far behind?

U.S. Dollar Index (symbol DXY) Daily Chart with Computer-generated Buy & Sell Signals

U.S. Dollar Index (symbol DXY) Weekly Chart with Computer-generated Buy & Sell Signals

 

Oil Services ETF (symbol OIH) Daily Chart with Computer-generated Buy & Sell Signals

Oil Services Index (symbol OSX) Monthly Chart with Computer-generating Buy & Sell Signals

Philadelphia Gold/Silver Stock Index (symbol XAU) Monthly Chart with Computer-generated Buy & Sell Signals