Last Week in Brief: November 28

November 28, 2014

"Neither the wisest constitution nor the wisest laws will secure the liberty and happiness of a people whose manners are universally corrupt." --Samuel Adams

Last Week in Brief
U.S. stocks edged higher during a quiet Thanksgiving week. Global stock indices were more volatile, posting stronger gains amid multiple announcements from foreign central banks.
Black Friday largely disappointed. Yes, there were plenty of Americans willing to leave their warm homes, tasty leftovers and visiting friends and families in order to spend three hours at Wal-Mart. But, there just weren't enough them. Makes me pine for the good old days. Tryptophan-induced brawls over 52-inch plasmas. iPad-obsessed housewives sleeping in cars. Teenage girls crying over Nordstrom's skinny jeans draught. We've lost our edge.

The National Retail Federation numbers show that weekend spending will be roughly 11 percent lower than last year. Not simply based on promotional pricing. Shopper traffic declined, as well.
Oil prices cratered as OPEC determined not to cut production despite falling prices and diminishing demand.
Saudis Playing with Fire
Ambrose Evans-Pritchard, the international economics correspondent at the Telegraph of London, published a piece over the weekend that provides great insight into the recent pummeling of crude oil prices. As usual, Evans-Pritchard masterfully connects the geopolitical dots, providing readers with the big picture. You can read the article here. Or, peruse the following extended excerpt:
"Saudi Arabia and the core OPEC states are taking an immense political gamble by letting crude oil prices crash to $66 a barrel, if their aim is to shake out the weakest shale producers in the United States.
"A deep slump in prices might equally heighten geostrategic turmoil across the broader Middle East and boomerang against the Gulf's petro-sheikhdoms before it inflicts a knock-out blow on U.S. rivals.
"Islamic State caliphate leader Abu Bakr al-Baghdadi has already opened a ''second front'' in North Africa, targeting Algeria and Libya -- two states that live off energy exports -- as well as Egypt and the Sahel as far as northern Nigeria.
''The resilience of U.S. shale may prove greater than the resilience of OPEC, '' said Alistair Newton, head of political risk at Nomura.
"Chris Skrebowski, former editor of Petroleum Review, said the Saudis want to cut the annual growth rate of U.S. shale output from 1 million barrels per day (bpd) to 500,000 bpd to bring the market closer to balance.
''They want to unnerve the shale oil model and undermine financial confidence, but they won't stop the growth altogether,'' he said.
"There is no question that the U.S. has entirely changed the global energy landscape and poses an existential threat to OPEC. America has cut its net oil imports by 8.7 million bpd since 2006, equal to the combined oil exports of Saudi Arabia and Nigeria.
"The country had a trade deficit of $354 billion in oil and gas as recently as 2011. Citigroup said this will return to balance by 2018, one of the most extraordinary turnarounds in modern economic history.
''When it comes to crude and other hydrocarbons, the U.S. is bursting at the seams,'' said Edward Morse, Citigroup's commodities chief. ''This situation is unlikely to stop, even if prevailing prices for oil fall significantly. The U.S. should become a net exporter of crude oil and petroleum products combined by 2019, if not 2018.''
" OPEC has misjudged the threat. As late as last year, it was dismissing U.S. shale as a flash in the pan. Abdalla El-Badri, the group's secretary-general, still insists that half of all U.S. shale output is vulnerable below $85.
"This is bravado. U.S. producers have locked in higher prices through derivatives contracts. Noble Energy and Devon Energy have both hedged over three-quarters of their output for 2015.
"Pioneer Natural Resources said it has options through 2016 covering two- thirds of its likely production. ''We can produce down to $50 a barrel,'' said Harold Hamm, from Continental Resources.
"The International Energy Agency said most of North Dakota's vast Bakken field 'remains profitable at or below $42 per barrel. The break-even price in McKenzie County, the most productive county in the state, is only $28 per barrel.'
"Efficiency is improving and drillers are switching to lower-cost spots, confronting OPEC with a moving target. ''The (price) floor is falling and may not be nearly as firm as the Saudi view assumes,'' said Citigroup.
Morse says the ''full cycle'' cost for shale production is $70 to $80, but this includes the original land grab and infrastructure. ''The remaining capex required to bring on an additional well is far lower, and could be as low as the high-$30s range,'' he said.
" Critics of U.S. shale may have misunderstood its economics. There is a fast decline in output from new wells but this is offset by a ''long-tail phase'' for a growing number of legacy wells. The Bakken field has already reached 1.1m bpd, and this is expected to double again over the next five years.
"Other oil projects around the world may be more vulnerable to a price squeeze, including the North Sea, the ultra-deepwater ventures in the Atlantic off Brazil and Angola, Canadian oil sands, or Russia's contentious plans for the Arctic in the 'High North'. But the damage will be gradual.
"In the meantime, oil below $70 is already playing havoc with budgets across the global petro-nexus. The fiscal break-even cost is $161 for Venezuela, $160 for Yemen, $132 for Algeria, $131 for Iran, $126 for Nigeria, and $125 for Bahrain, $111 for Iraq, and $105 for Russia, and even $98 for Saudi Arabia itself, according to Citigroup.
" OPEC may not be worried about countries such as Nigeria, but even there a full-blown economic and political crisis could turn the north into a Jihadi stronghold under Boko Haram.
"The growing Jihadi movements in the Maghreb, combining with events in Syria and Iraq, clearly pose a first-order security threat to the Saudi regime itself.
"Terrorist movements in the Egyptian Sinai have also rallied to the black and white flag of IS, prompting Egypt's leader Abdel al-Sisi to call last week for a ''general mobilization'' of all leading Arab and Western powers to defeat the spreading movement.
"The Sunni Salafist tornado sweeping across the Middle East -- so strangely like the lightning expansion of Islam in the mid-7th century -- is moving to its own inner rhythms. It is not a simple function of economic welfare, let alone oil prices.
"Yet Saudi Arabia's ruling dynasty tests fate if it is betting that the Middle East's fraying political order can withstand a regional economic shock for another two years."
America's Biggest Threat
While many focus on the ramifications of the energy sector shakeup, let's not miss the forest for the trees. During periods like this, strong economies and currencies become stronger. As will America. Capital flows to the U.S. will increase. Because it remains the safest of havens worldwide. These flows will be bullish for U.S. stocks and bonds.
Yet, while the U.S. could leverage events like this as opportunities to make us stronger, more independent and self-sufficient, we will not do so. Because that requires political consensus. This nation's Achilles Heel. Even when the prize is so obviously before us, for the taking, we're unable to grab it. Because the White House, Senate, House of Representatives, Republicans and Democrats remain unable to realign themselves from poisonous partisan rancor long enough to unite for the benefit of the nation.
The biggest threat to America does not emanate from the Middle East. From economic woes. The energy sector. Or foreign military dangers. The biggest threat facing the U.S. remains its broken political sector, and the continuing leadership vacuum therein.
Letters from a Contrarian
Entrepreneur, investor, tech evangelist and deep thinker Peter Thiel recently wrote a book entitled Zero To One (link). While the book is being hailed as must-read material for entrepreneurs, the material covers so much more. Independent and critical thinking. Social philosophy. Start ups. And much more. If you're looking for Thiel's worldview, or simply hoping to more precisely formulate your own, this book need be on your nightstand. Great interview with Thiel, here.
The Best Financial Advice I Ever Got (or Gave)
Successful investors and entrepreneurs dispense the best financial advice they've ever utilized, be it from them or to them. Either way, you'll glean some gems for your own prosperity project. Article here.
U.S. Treasury Issues $1T in New Debt in 8 Weeks (to Cover Old Debt)
Last week's Daily Treasury Statement showed that the Treasury issued $1,040,965,000,000 in new debt since fiscal 2015 began... eight weeks ago! This, in order to raise the funds needed to pay off Treasury securities that were maturing and cover new deficit spending by the government. More here.
Bottom Line
Stocks had been ripping vertically higher ever since the fear-induced mid-October low. That deep level of risk aversion set the stage for the parabolic rally that followed.
Now, Ebola and rate hikes have been replaced by oil drops and Black Friday woes. Yet, complacency has not yet set in to the point that a top has been set. U.S. markets remain undergirded by economic expansion. GDP is growing. Unemployment is declining. Inflation remains off the radar. Monetary policy, stock buybacks, growing profits and M&A activity continues to support financial assets.
Accordingly, we expect buyers to return and send equity prices higher heading into year end. And so we continue recommending a pro-equity posture.
Weekly Results
Major markets finished higher last week. The DJIA rose 0.10%, the S&P 500 gained 0.20%, and the Nasdaq advanced 1.67%. Small cap stocks rose 0.07%. And the 10-year Treasury bond yield fell 14 basis points to 2.17%. Gold lost $32.81 per ounce, or 2.73%.
Check out JP Morgan's weekly recap here.

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