In The Headlines
Chinese Oil Hoarding Eases the Impact of a Worldwide Glut
Even after China’s slowing economy dragged crude to a six-year low, oil’s second-biggest consumer remains the main safeguard against a further price meltdown. While China’s surprise currency devaluation helped trigger Brent crude’s slump to about $42 a barrel last month, the nation’s stockpiling of oil can be a barrier to further losses. In the first seven months of the year, China purchased about half a million barrels of crude in excess of its daily needs, the most for the period since 2012, according to data compiled by Bloomberg. As the country gathers bargain barrels for its strategic petroleum reserve, the demand is cushioning an oversupplied market from a further crash, according to Columbia University’s Center on Global Energy Policy.
“It throws a lifeline to the market” that safeguards against the risk of crude touching $20 a barrel, Jeff Currie, head of commodities research at Goldman Sachs Group Inc. in New York, said by phone. “That lifeline lasts through late 2016.” Other countries have emergency oil-supply buffers, and while the U.S. Strategic Petroleum Reserve has been stable at about 700 million barrels for years, China is expanding its stockpiles rapidly.
The Asian nation has accumulated about 200 million barrels of crude in its reserve so far and aims to have 500 million by the end of the decade, according to the International Energy Agency. It is currently filling a 19 million-barrel facility at Huangdao and will add oil at six sites with a combined capacity of about 132 million barrels over the next 18 months, the Paris-based adviser on energy policy estimates. “The fact that China is stockpiling crude for public strategic storage certainly offsets the weaker sentiment on China’s oil-product demand,” said Harry Tchilinguirian, head of commodity markets strategy at BNP Paribas SA in London.
China’s demand growth is set to slow to an annual rate of 2.3% by the fourth quarter compared with 5.6% in the second quarter, a reflection of “weak car sales data, declines in industrial activity, plummeting property prices and fragile electricity output,” the IEA said in a report on Sept. 11. Brent for November settlement fell 0.8 percent to $48.67 a barrel at 3:46 p.m. on the London-based ICE Futures Europe exchange. The international benchmark has fallen about 50 percent in the past year.
When amassing inventories, China’s import demand can swing by as much as one million barrels a day, or about 15% above monthly average levels, according to Colin Fenton, a fellow at the Center on Global Energy Policy at Columbia University in New York. Because the country buys when prices dip, it helps shield crude against extreme losses and effectively makes $30 a floor for Brent, he said by e-mail.
“It’s going to be really, really hard to stay there or push lower because that price has already been demonstrated by the Chinese to be one where you should expect hundreds of thousands of barrels per day of import demand to appear,” said Fenton, who was global head of commodities research at JPMorgan Chase & Co. from 2010 to 2015, continuing to say, “China is the only country that can do it.” These discretionary purchases, while tempering oil’s recent slump, still need to be considered against the long-term slowdown in China’s energy consumption and the size of the current oversupply of crude, according to Barclays Plc. “The surplus in the market at the moment is close to 2 million barrels a day,” said Miswin Mahesh, an analyst at Barclays in London. “China’s support for the SPR would only be able to take a fraction out of that.”
While Chinese stockpiling will “taper off” in 2016, it is helping the oil market to digest excess production gradually, according to Goldman Sachs’s Currie. By mopping up some of the surplus, China encourages a gentler scenario in which the “financial stress” of $40 oil gradually causes highly indebted shale producers to curb production, Currie said. “You reduce the likelihood of a scenario where the market only balances when prices collapse below production costs, at about $20 a barrel,” he said.
Citations
1. http://bloom.bg/1JeBZbf – Bloomberg
2. http://cnnmon.ie/1QrVR0a – CNN
Could Negative Interest Rates Be Around the Corner?
Last week, the Federal Reserve spooked markets by preserving the monetary policy status quo. Yet a few central bank watchers were more surprised by a new idea the central bank seemingly suggested: a negative interest rate. At least one committee member apparently floated the idea that a fed funds rate below zero might be an appropriate target for the remainder of this year and next. The forecast is widely thought to be the work of Minneapolis Fed President Narayana Kocherlakota, a non-voting member of the committee known for his dovish views. In her press conference last week, Fed Chair Janet Yellen made clear that a negative federal funds rate “was not something that we considered very seriously at all today.”
However, in an environment where prices are persistently low, negative rates mean banks virtually pay consumers to borrow money. The idea has been floated in the U.K., and tried in the euro zone and Switzerland. The fact that the concept is being floated in the U.S. is striking to some. After all, the Fed has spent years noting that its benchmark rate is at the “zero lower bound,” which forces it to take other actions in order to stimulate the economy, (i.e. purchase bonds) since rates cannot be lowered any further.
Yet what if that bound is not a bound at all, but a Rubicon waiting to be crossed? For University of Michigan economics professor Miles Kimball, negative rates are both possible and inevitable. Kimball has travelled the world talking about the effects of subzero rates with central bankers around the world—including Fed policymakers. His goal is to show policymakers that it is actually easy to effectively make interest rates negative. Moreover, he believes adding the tool to a central banking policy toolbox is critical to ending recessions and combating deflation. “What I’ve been working on is trying to make sure that the intellectual foundation for negative interest rates is laid in time for the next recession,” Kimball said in an interview. “It’s important for people to realize that the zero lower bound is ultimately a policy choice, and it’s a bad one. And it’s something that come another big emergency, we can do away with.”
The concept of negative rates can be thought of as such: if the equilibrium interest rate—the rate at which money would naturally be lent—is a percent per year, a central bank wanting to combat low prices could trim its target rate below 1%. That will cause excess money to be borrowed and invested, and hopefully boost inflation and growth. Yet if the equilibrium interest rate is actually below 0%, then most holders of currency would rather suffer a guaranteed loss rather than lend their money out. This was prevalent during the depths of the Great Recession. In that case, even an interest rate of 0% would be contractionary rather than stimulative.
Kimball does not necessarily believe that negative rates would be appropriate in the U.S. given that the worst of the recession is over. However, the conditions may present themselves again within the next decade, and the Fed could be prepared to meet the challenge. “By the next recession, the U.S. will be ready to employ negative interest rates,” he predicted. Although Yellen shot down the short-term potential for negative rates, she said last week that if “we found ourselves with a weak economy that needed additional stimulus, we would look at all of our available tools, and a negative rate would be something that we would evaluate in that kind of context.”
Recently, the European Central Bank, as well as Switzerland, Denmark and Sweden, have all enacted negative policy rates. Cutting the federal funds rate below the zero mark would be similar. But even if the Fed choose to do that, businesses and consumers would not be coaxed into making investments rather than hoarding their cash, and interest rates would simply go to exactly zero. In order to truly enact a negative rate, the Fed would have to go further. Kimball proposes that central banks effectively make the rate of return on cash negative, by adjusting the conversion rate between paper money and electronic money. Right now, when a $100 bill is deposited into an account, $100 is added to that account. However, a central bank could create a situation whereby that $100 deposit only led to a $98 increase in the account. That would mean paper currency would have a rate of interest of negative 2%, rather than its current 0%. At the same time, the government would have to remove the requirement that businesses accept cash as legal tender. In the service of reducing the overall value of money, the parallel linkage between the two kinds of currency—paper and electronic—would be broken.
So how would the government defend taking your money away slowly? “When there’s inflation, zero interest rates are already taking money from you slowly.” Kimball pointed out. “Negative 4 percent for one year, for instance, would have been better than 0 percent for seven years,” he said. “Avoiding negative rates isn’t doing savers any favors, because the best thing you can do for them is get out of your recession fast.” In a negative-rate world, the critical concept known as the “time value of money,” whereby money now is more desirable than the same amount of money later, would be flipped on its head. As for floating bond agreements, if rates fell far enough below zero, the lender could find itself forced to fork over interest payments to the borrower. Meanwhile, the cash regime Kimball recommends would make the ability to pay in cash a gigantic advantage. “Businesses have got to start planning for this,” Kimball advised. “Any lawyer who writes a debt contract without stipulating what happens if the market price of a paper dollar is not equal to an electronic dollar has to wake up.” The economist added: “There’s going to be some central bank that does what I’m suggesting, and the companies who didn’t prepare for it are going to be disadvantaged.”
Citations
1. http://cnb.cx/1OohTTP – CNBC
2. http://bit.ly/1gytnWb – ZeroHedge.com
The Good News Is . . .
• U.S. consumer prices unexpectedly fell in August as gasoline prices resumed their decline and a strong dollar curbed the cost of other goods, pointing to tame inflation. The Labor Department said its Consumer Price Index (CPI) slipped 0.1% last month, the first decline since January, after edging up 0.1% in July. In the 12 months through August, the CPI rose 0.2%. Signs of a disinflationary trend reasserting itself are in stark contrast with a rapidly tightening labor market.
• Medtronic Inc., a leading supplier of medical technology and services, reported earnings of $1.02 per share, an increase of 3.0% over year earlier earnings of $0.99 per share. The firm’s earnings topped the consensus estimate of analysts by $0.01. The company reported revenues of $7.3 billion, a 70.2% increase. Management attributed the company’s results to strength in its U.S. markets.
• Dentsply said it would acquire Sirona Dental Systems for $5.5 billion in what the two companies called a merger of equals that would create a dental health giant with a combined market value of about $13.3 billion. Together, they have about $3.8 billion in sales and $900 million in adjusted earnings before interest, taxes, depreciation and amortization. By combining, the companies said, they will become a one-stop shop for a host of dental products, including new automated dental equipment and other services. Under the terms of the deal, Dentsply will issue 1.8142 new shares in Dentsply for each existing Sirona share.
Citations
1. http://1.usa.gov/1FCkIKY – Bureau of Labor Statistics
2. http://cnb.cx/1gct3xa – CNBC
3. http://bit.ly/1F9Iwcr – Medtronic, Inc.
4. http://nyti.ms/1iHxvVY – NY Time Dealbook
Planning Tips
Planning Tips for Long-Term Care
Health Savings Accounts (HSA), which let you save for current and future health care expenses on a tax-free basis, have been around for more than 10 years. Yet relatively few Americans take advantage of them. Only 20% of those who are eligible have an HSA account, according to the Washington-based Employee Benefits Research Institute (EBRI). Those who do not have an HSA are often missing out on some key financial perks—especially older Americans, who can sock away an extra $1,000 or more in “catch up” savings to help plan for medical costs in retirement. Below are some of the benefits to consider when thinking about an HSA. You should consult with your financial advisor to determine if an HSA if suitable for you.
Lower taxes – Among the chief benefits of HSA accounts are the tax advantages. For those 50 and older, out-of-pocket health care expenses are likely to rise as you age. An HSA has a triple tax advantage. The money goes in tax free, it builds up tax free and it comes out tax free if withdrawn for qualified medical expenses. That is better than a traditional 401(k) plan or even a Roth IRA. In 2015, savings limits are $3,350 for individuals and $6,650 for families. HSA holders age 55 and older are permitted to save an extra $1,000. So a husband and wife who are each 55 and above, and each with their own HSA accounts, could collectively put away up to $8,700. These HSA contributions generally are completely tax deductible from your gross income, which will lower your federal income taxes.
Potential financial benefits from your employer – An HSA can also lead to some nice on-the-job perks. Employers are continuing to add HSA plans and wellness incentives. In some cases, employers are tying the two benefits together. For example, assume you get your biometrics checked. With that screening, you might get an assessment of your BMI (Body Mass Index), or you might have your blood pressure or cholesterol examined. In exchange for the employee taking those healthy steps, which can often prevent further medical problems down the road, your employer may increase its contribution to an HSA or lower your health care premiums.
Build up savings for nursing home care and other costs – Planning for health care costs is nearly impossible, experts say, because there are so many variables involved. For example: How long are you going to live? When exactly are you going to retire? Do you have supplemental coverage? If so, how much does it cost? Health care is the biggest unknown in the future—especially for people who do not have long-term care insurance. It is important to start an HSA account as early as possible. Smart consumers will want to “stockpile” assets in an HSA and then use them later for nursing home care or other health-related expenses. There is a variety of ways in which HSA money can be used, including Medicare premiums, cancer treatments, dental care, vision, medical screenings, hospitalizations that are not covered and more.
Build your retirement nest egg – Numerous studies show that boomers aren’t saving enough for retirement. The HSA offers a way to help there, too. You might not be able to put funds in a Roth IRA if you are making too much money. But with the HSA, this is a retirement benefit without income limits. That is a really big deal.
Understand the trade-offs – In order to put money into an HSA, you have to be in a plan with a high deductible. The minimum yearly deductible is $1,300 for individuals and $2,600 for families. Qualified plans bought on one of the new health care exchanges are eligible. But it is important to consider whether that high annual deductible is financially feasible for your budget. Also, to take advantage of an HSA, you have to pay your out-of-pocket expenses today on an after-tax basis, in order to maximize that account balance in the future. If you use HSA funds prior to age 65 for non-medical purposes, there is a tax penalty of 20% percent. After age 65, HSA funds not used for medical costs can be withdrawn at ordinary income tax rates.
Citations
1. http://bit.ly/ZQq9VX – US News & World Report
2. http://bit.ly/1J4BW5C – AARP
3. http://bit.ly/1QrVZMY – HSACenter.com
4. http://onforb.es/1dp7xeY – Forbes
5. http://mayocl.in/1YssyjY – Mayo Clinic
