Crude Awakening28 January 2016

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Scenario Update: Crude Awakening

Crude Awakening

HiddenLevers

MARKET UPDATE

Market Update

sources: HiddenLevers, Forbes, Zerohedge, Guardian, Atlantic, Wikipedia

1

ZimbabweChina Colony

2

3

Obamacare worries

mount

Finance Industry in Limelight

Market Update: Fed Mea Culpa 4

sources: HiddenLevers, WSJ, Marketwatch

March rate hike off the

table

2015 Fed Stress Tests dead wrong

on oil

Foreign QEECB + China

too early or

too late?

Still no 2016 Fed Stress

Tests

Market Update: January Correction in Context

sources: Yardeni Research

Year S+P Return % Recession?

1948/49 -59 Y

1957 -21 Y

1962 -26 N

1966 -22 N

1968/70 -36 Y

1973/74 -48 Y

1976/78 -19 N

1980/82 -27 Y

1987 -34 N

1990 -20 Y

1998 -19 N

2000/02 -49 Y

2007/09 -56 Y

2011 -19 N

Aside from 1987 crash, all 30%+ corrections were part of a recession.

Even if current 12% drop doubled, recession not guaranteed.

5

HiddenLevers

OIL REDUX

Oil Redux: Phases of the Crash

sources: CBC

Phase 1 •US Dollar rise•No risk premium

Phase 2•Saudis pumping •Everyone pumping•China Slowing

Phase 3• Iranian oil back •US demand flat•Tech advances

?

Oil Redux: Max Draw Down Comparisons

sources: HiddenLevers

Current Oil correction is in line with 1980 and 2008 crashes.

-76%

-71%

-70%

-55% -55%

Oil Redux: Supply / Demand Balance

sources: HiddenLevers, OilPrice.com

Demand Factors:• Global growth slowdown• US demand stagnant / dwindling• Electric Vehicles• US Demographic Shift

Supply Factors: • US producers hedged into 2017• Iran production ramp-up• Saudi / OPEC still not cutting?

Oil Redux: Equity / Oil Correlation

sources: HiddenLevers

YearOil

Loss %

S+P Return

%

1985/86 -59 +22

1987/88 -35 -10

1990 -27 +5

1990/91 -45 +23

1997/98 -55 +54

2000/01 -53 -21

2003 -31 +11

2004 -34 +5

2006/07 -35 +12

2008 -76 -29

2010 -21 -9

2011 -32 -15

2012 -29 -2

2014/16 -70 +3

14 OIL corrections Six S&P 500 declines• Recessions knock down both oil + equities• Mid-cycle oil crashes have little impact

Oil Redux: Energy Sector Impact

source: HiddenLevers

Upstream:Need for cash = pumping all-outMany firms will pump into the teens (eg FCX @ $16/barrel cash cost)Many firms’ shares down 90%

Downstream:Refiners’ profits up on cheap oilRetailers’ profits up on cheap gasRefiner ETF has ½ downside of S&P

Midstream:MLPs hit by lack of future growthMany MLPs are overleveragedMLP ETFs down 50%

-90%

-50%

+5%

Oil Redux: US Economic Impact

source: HiddenLevers, Resource Reports, WSJ

Cheaper oil=HIGHER GDP

Cheaper oil=DEFLATION Cheaper oil

=NO IMPACT ON CORE INFLATION

Cheaper oil=MORE PEOPLEEMPLOYED

Cheaper oil=PAYROLLSINCREASE

Cheaper oil=MORE SPENDING

Oil Redux: Global Economic Impact

source: HiddenLevers, Resource Reports, Bloomberg

GDP pop from cheap Oil:• India + China• Japan + S. Korea• Eastern Europe• SE Asia ex Malaysia

Sovereign Default Risk: • Russia

Resource Countries Benefit too: • Canada• Brazil• Chile

Oil Redux: Investment PostureOpportunities Hedges

Airlines

Shipping + Transport

Lodging

Refiners

Non-energy in Resource Countries

Solar

Non-energy High Yield

sources: HiddenLevers

Utilities

Energy Importing Countries (Japan, India)

Refiners

Don’t believe the hype!

HiddenLevers

SCENARIOS: CRUDE AWAKENING

Scenario Update – Many in Play

Oil CrashGoodBounce

Back

BadIsolated

Crash

UglyPerfect Storm

$32 -33%

$48 PRICED IN

$74 +50%

key lever

OPEC relents or Shale producers fold.

Almost 60% decline in oil since summer 2014, S&P has been flat.

Oil prices pierce financial crisis lows. Unlike 2008-09, no V-Shaped recovery for Oil.

Jan 2015WAR ROOM

BAD: Shanghai Crash

foreign money no come back

China markets struggle but S+P in tact

source: HiddenLevers, WikInvest, Forbes, CNBC, WSJ

negative wealth effect

RE + credit bubbles

don’t pop

69 P/E, above 2007

peak

Still holding!

margin calls actually happen

-4

-32

July 2015WAR ROOM

UGLY: China Recession

triple bubble pop

source: HiddenLevers, Economist, ZeroHedge,

seismic economic changes

China posts negative GDP as a consumer nation

govt actionsfar exceed US

in 2008

China is world’s #2 consumer

government caught lying

drags down commodities

producers

July 2015WAR ROOM

BAD: Tech Reality Check

some unicorns

die

Nasdaq stops outpacing S+P

source: HiddenLevers

SF property market

correction

normalizing P/E ratios

1y returnSPX +12Nasdaq +23

May 2015WAR ROOM

UGLY: Dot Com Déjà Vu

more muted than 2000

crash

source: HiddenLevers

valuations questioned across tech

Fed may restart QE

Unicorns crashing spooks NasdaqSPX less

damaged, a la 2000

AAPL GOOG take a hit

May 2015WAR ROOM

Crude Awakening: Three Big Risks

Progress

58%S&P

-10%

Progress

43%S&P

-12%

Progress

39%

Energy sector bankruptcies will rise as oil hedges roll off. Low commodities prices are tied to weak global growth, but US likely avoids recession.

Unicorn are being revalued 50-75% lower now, and tech IPOs are mostly on hold. Further downside possible if tech growth story weakens (AAPL, other FANGS)

China appears more likely to slip into first recession in 30 years, with a devastating impact on its suppliers. US impact muted, but could result in mild bear market

Commodities Perfect

Storm

Dot Com Deja Vu

China Recession

S&P

-16%

Crude Awakening – Take Aways

Russia is primarydefault risk on Cheap Oil

China more downside impact on US than cheap oil

Cheap Oil = net benefit (to most countries)

OPEC action needed to lift Oil Prices