The evisceration of the stock markets has been the most consistent theme surrounding the financial markets so far this year. We are either on the brink of crisis or already in a crisis. Investors are right to wonder, “How will this horror picture end?”
Importantly, the reason that stocks have collapsed lower has been in response to headwinds from other parts of the economy, like manufacturing and trade. These sectors are, in turn, closely connected to the energy market. The more that trade and manufacturing slow down, the less demand there is for energy resources.
The low prices for crude oil prices are one clear sign that the world economy is in trouble. Besides that, other events are making the situation even worse.
We’ll begin with a look at what else low oil prices are telling us.
Simple arithmetic shows that U.S. oil companies are in peril. It costs these firms $36 to produce a barrel of oil; but they can only sell each barrel for about $31 a barrel right now. In fact, the oil in the barrel now costs less than the barrel itself!
Many companies won’t survive these low prices. Investors are therefore pricing in more risk when it comes to energy companies. This is seen in the credit markets.
In the credit markets, “spread” is the differential between a relevant index (for instance, an index that tracks corporate bond yields) and Treasury yields, which are seen as risk-free. The smaller the spread, the less risky those corporate bonds are believed to be by comparison. This tells us something about how “risky” the underlying corporations are, too.
For the energy sector, the spread in the credit markets has skyrocketed. The spread has widened to 1,530 basis points, or 15.3 percent. This exceeds the highest spread seen during the crisis and the Great Recession, which peaked at 14.2 percent in 2009.
Investors are worried that oil companies will start defaulting one after another. These firms are already on the brink of experiencing negative cash flows. If and when this happens, the bottom for crude oil prices will be felt.
Jobs and Employment
We are continuously fed fallacious statistics from the government about how healthy the labor markets are. However, this is far from the whole story.
One constant threat is technological evolution. Some are dubbing this the “Fourth Industrial Revolution.” Over the next four or five years, the rise of robotics, automation, artificial intelligence (AI), and genetics research have the potential to transform how work is done. These changes could eliminate 5 millions jobs in the short term and affect 1.9 billion workers around the world in the long term.
More jobs may be lost by big corporations cutting back to cope with the economic downturn. Think about all of the workers out of a job because dwindling revenues are forcing oil drilling companies out of business.
Now consider Wal-Mart, who employs 1.4 million Americans and many more workers overseas. The company has said is going to shut down hundreds of retail stores. This is a signal of Wal-Mart’s slowing growth. It has also caused the company’s stock to fall by 29 percent since January of 2015.
All of the signs of crisis are interconnected. According to experts at Bloomberg, the odds of a recession in the U.S. are the highest since 2013. The IMF and other institutions have repeatedly resorted to downgrading their predictions for global growth.
Whether you focus on stocks, or commodities, or statistics such as employment, there are good reasons to be worried everywhere you look. There are mountains of data that paint a dreary picture of where the economy is headed this year and into the future.
It’s no wonder the delegates at the World Economic Forum in Davos, Switzerland have reportedly been filled with anxiety.
The opinions and forecasts herein are provided solely for informational purposes, and should not be used or construed as an offer, solicitation, or recommendation to buy or sell any product.