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Energy Markets Watch: Halloween Edition (2019)

Contributed By: Robbie Fraser, Commodity Analyst | Schneider Electric Energy & Sustainability Services

October’s Markets Watch rings your doorbell just in time to pose the enduring question for Halloween: trick or treat? With China’s uncertain GDP momentum, the Fed’s upcoming rate decision and, of course, Brexit, it’s a question worth asking all month. Will those end up being nickels and toothbrushes in our collective goodie bag or maybe something a little more tasty? Let’s hope we get something with nougat.

October 17: Chinese Economic Data

While the U.S. still retains the top spot as the world’s largest economy, China has opened a comfortable lead on the remaining competition. As the world’s second largest economy, China boasts total GDP greater than Japan, Germany and India combined. Additionally, China is among the global leaders in economic growth, with an economy that’s expanding roughly three times faster than more established economies in the U.S. and the European Union. In short, Chinese growth is major driver of total global economic growth. That also means any slowdown represents a major global risk.

Recent data has led many to question whether China’s unprecedented multi-decade expansion is quickly approaching some significant hurdles. It’s GDP growth remains impressive, but is nonetheless slowing, and more recent figures suggest manufacturing is suffering from ongoing U.S.-China trade tensions. That, in turn, encourages more serious concerns around issues like corporate debt and the overall health of the Chinese economic system.  Strong GDP and other economic figures in October’s release could ease some of those concerns and push market prices (including energy benchmarks crude, coal and natural gas) higher.

However, disappointing results would give alarmists some fundamental footing and could have many traders hitting the “sell” button.

October 30:  Fed Rate Decision

For an organization that has never fully embraced the spotlight, the U.S. Federal Reserve continues to stand under it. After lowering rates last month, a handful of economists, traders and armchair experts have urged the Fed to press ahead with yet another cut at the end of the month. Additionally, President Trump has made it abundantly clear that he sees further cuts as an absolute necessity.

For the Fed, the equation is as simple as it is complicated: cut too quickly and you risk inflating bubbles and accelerating inflation or hold rates too high and artificially stifle growth and maybe kick off a recession ahead of schedule. Of course, that ignores the added complication of a particularly strong dollar despite recent rate cuts, which can largely be traced to the last item on our list.

In any case, the equation for energy remains straightforward. All else equal, lower rates mean a weaker dollar (and vice versa). A weaker dollar means higher prices for dollar-denominated energy commodities – crude, coal and LNG (and vice versa). In short, rate cuts might boost your stock portfolio, but they’re also likely to boost the price you pay at the pump. 

Current market bets based on CME futures see a 63% chance of a cut, so there’s still plenty to be priced in. Stay tuned.

October 31: Brexit Deadline

With plenty of fear and uncertainty to go around, Halloween seems a fitting deadline for the ongoing Brexit saga.  After multiple deadline extensions, current British Prime Minister Boris Johnson is determined to stick to an October 31st deadline for the UK to leave the EU, even if the terms are less than desirable. If the deadline holds and a comprehensive deal isn’t finalized first, UK-EU trade could see unprecedented disruptions, and the impact to their respective economies would carry global implications.

On the surface it would seem energy trade might represent one the largest risks of a haphazard divorce, with the UK and EU trading large volumes of natural gas, electricity, and other forms of energy around the clock. While that sets up extreme risk from any disruption in trade, energy appears to be largely insulated from whatever Brexit’s ultimate conclusion may be. The framework it has in place for energy trade should continue even under “hard Brexit” conditions. 

Still, that doesn’t mean energy prices are likely to escape unscathed. The pound and euro are still slated to see plenty of volatility in weeks ahead. And, given the degree of energy trade between the UK and EU, those currency shifts are quickly reflected in gas and power prices. A hard Brexit would almost certainly bring further weakness to the pound, boosting the price of UK gas and power.

More broadly, the issue risks weakening an already nervous global economy, which could hold much more important (and generally bearish) implications for energy prices far beyond the European continent.

Of course, the situation may also see another last minute extension (despite the current PM’s assertion that this is off the table), or even a comprehensive last-minute deal between UK and EU leaders.

Trick or treat?

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