Originally posted at ExecSpec.net
Often oil prices and stocks move in the same direction. This is logical longer-term when considering an expanding economy is coincidentally good for earnings of stocks as well as the rising demand for oil to feed a growing economy. While there will be periods of divergent trends, the past year or two has witnessed a strong correlation of swings in energy prices and equities.
Normally, long-term uptrends in oil occur due to demand rising faster than supply. Recently, oil prices have surged above resistance at $70 a barrel on news that major countries are cutting off oil imports from Iran to avoid US sanctions. Combined with this is the capacity constraints of swing production in the US and Saudi Arabia creating significant supply shocks lifting energy prices instead of the usual demand pull influences.
Our forecasts have been very bullish toward oil prices all year with forecasts of $70 to $80/barrel in the 4th quarter 2018. As the chart illustrates, the minimum targets for this breakout are roughly $74 to $75 with potential for a test of $80 in October when seasonality begins to limit the upside potential.
With oil surging to an October peak and perhaps the most contentious mid-term election in history on November 2nd, we posit that stock prices are moving into a trading range with a corrective trend starting as we inch closer to the election. In 2016, the scandal plagued pre-election created considerable concern over the uncertainty of two polar opposite candidates with stocks drifting lower in late September and October.
In 2018, the fervent desire to impeach Trump and now his Supreme Court pick, Judge Kavanaugh, has galvanized the Left and worried the Right, creating one of the most impactful elections ever. Should Democrats control the House and the Senate they will be unlikely to have a successful impeachment without a two-thirds super majority, but they would be able to bring a persistent legal onslaught and legislative control creating considerable concern amongst investors.
Using October strength to raise investor cash levels and downside hedges would be prudent until November 6th. Odds makers currently have the Democrats taking over the House with the GOP holding the Senate, but clarity in this explosive news environment is far from certain. The investment markets have enjoyed the GOP control, despite constant calls for impeachment and Trump’s tariff threat against all of our trading partners. We suspect that markets will be mildly euphoric if the GOP retains the Senate, but scared if they lose the Senate majority. For the short term, we advise the buyer to beware!