-- Published: Sunday, 27 September 2015 | Print | Disqus
By Harris Kupperman
Starting at the end of 2014, I wrote a number of pieces (There Will Be Blood!!, There Will Be Blood!! (Part II), There Will Be Blood!! (Part III), There Will Be Blood!! (Part III.V)) detailing how QE was facilitating the production of certain real assets like oil where the production decision was no longer being tied to profitability. For instance, shale producers could borrow cheaply, produce at a loss and debt investors would simply look the other way because of the attractive yields that were offered on the debt. The overriding theme of these pieces was that the eventual crack-up in the energy sector would precipitate a crisis that was much larger than the great subprime crisis of last decade as waves of shale defaults would serve as the catalyst for investors to stop reaching for yield and once again try to understand what exactly they owned.
Fast forward 9 months from the last piece and most of these shale producers are mere shells of themselves. If you got out of the way—good for you. Amazingly, these companies can still find creative ways to tap the debt markets, stay alive and flood the market with oil. Eventually, most won’t make it and I believe that the ultimate global debt write-off is in the hundreds of billions of dollars—maybe even a trillion depending on which larger players stumble. That doesn’t even include the service companies or the employees who have their own consumer and mortgage debt.
I believe that shale producers are the "sub-prime" of this decade. As they vaporize hundreds of billions in investor capital, thus far, there has been a collective shrug as everyone ignores the obvious--until suddenly it begins to matter. By way of timelines, I think we are now getting to the early summer of 2008--suddenly the smart people are beginning to realize that something is wrong. Credit spreads are the life-line of the global financial world. They’re screaming danger. I think the equity markets are about to listen.
High Yield - 10 Year Spread Is Blowing Out
Then again, a few hundred billion is a rounding error in our QE world. There is a much bigger animal and no one is talking about it yet—the petrodollar.
Roughly defined, petrodollars are the dollars earned by oil exporting countries that are either spent on goods or more often tucked away in central bank war chests or sovereign wealth funds to be invested. I’ve read dozens of research reports on the topic and depending on how its calculated, this flow of capital has averaged between $500 billion and $1 trillion per year for most of the past decade. This is money that has been going into financial assets around the world—mainly in the US. This flow of reinvested capital is now effectively shut off. Since many of these countries are now running huge budget deficits, it seems only natural that if oil stays at these prices, this flow of capital will go in reverse as countries are forced to sell foreign assets to cover these deficits.
Over the past year, the carnage in the emerging markets has been severe. Barring another dose of QE, I think this carnage is about to come to the more developed world as the petrodollar flow unwinds and two decades of central bank inspired lunacy erupts.
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-- Published: Sunday, 27 September 2015 | E-Mail | Print | Source: GoldSeek.com