Highlights of this Week’s Update:
- The major U.S. stock indices drop last week on concerns over Iraq and the economy.
- Tensions in Iraq and uncertainty of the outcome push oil prices higher and we review the current situation.
- Our strategies put into place last year are now benefitting portfolios with higher bond and commodity prices.
Concerns over what’s happening in Iraq and continued mixed economic signals kept the major U.S. stock indices in check last week. The Dow dropped 0.9% while the S&P 500 fell 0.7% for the week. The Dow is now up just 1.2% for the year through last Friday. (MarketWatch) Oil prices rose along with gold gaining $25.00 per ounce. Interest rates declined while bond prices rose. The IMF (International Monetary Fund) reduced its growth estimates for the U.S. economy in both 2014 and 2015 after the weak performance in the first quarter of this year.
Turmoil in Iraq
Last week we witnessed a troubling turn of events in Iraq when Mosul, the country’s second largest city, unexpectedly fell to the Islamic State of Iraq and al-Sham (ISIS), a shadowy breakaway group from al-Qaeda (Wall Street Journal).
Geopolitical instability has historically created temporary jitters in markets at home before investors shifted back to the economic fundamentals. Recent events in Ukraine, the revolution in Egypt, and the fall of Libyan strongman Muammar Gaddafi come to mind. Libya was the only one that exported oil in a significant way.
Rising supply disruptions have been taking a toll on the global oil markets – see Figure 1. Throw in unplanned outages from non-OPEC nations and roughly 3.3 million barrels of crude oil is off the world market today (Energy Information Administration).
Yet, oil prices have remained relatively well-behaved. Thank a surge in U.S. oil production – see Fig 2.
The revival in production at home has been nothing short of astounding, and it shows no signs of leveling off anytime soon. The end result – the U.S. oil boom has played a big role in helping keep a lid on prices. But rising U.S. oil production alone cannot absorb a significant supply disruption from Iraq. Still, it’s unlikely to create shortages at home.
Take a look at the table below. Iraq contributes just a small portion of overall U.S. supplies.
Understandably, last week’s turn of events have been unsettling from both an economic and strategic perspective. From an economic standpoint, any significant loss of Iraqi crude would send tremors through the world oil market. In that case, Saudi Arabia could be called upon to boost production, and there is always the potential the U.S. and other nations could release oil from their respective Strategic Petroleum Reserves.
We’re likely to see gasoline prices rise in the coming days amid last week’s increase in prices. Most analysts estimate that every $1 increase in the price of oil roughly translates into an extra $1 billion in extra costs to the U.S. consumer over a one-year period. But if we put it into perspective, total U.S. Gross Domestic Product (GDP), which is the largest value of goods and services, recently topped $17 trillion (BEA data). Therefore, a 20 cent rise in gasoline prices (as an example only) over an entire year would be frustrating, but it’s still only a fraction of U.S. GDP. Bottom line – it would take a significant increase in prices to rattle the U.S. economy.
With renewed concerns over the U.S. economy and the present global situations, we could see some type of renewed stimulus from the FED down the road. This might put us in a prolonged low interest rate environment, and higher commodity prices. We remain in a cautious mode, and will continue to do so as long as warranted. With the present positions in portfolios of fixed income/bond funds, commodities, and specific individual stocks, performance overall for all risk levels has been very good so far in 2014 relative to risk.
We appreciate the privilege of serving each of you and look forward working with you all in the years to come. Please don’t hesitate to call if you ever have any questions, or if we can be of further service in any way.
Your TEAM at F.I.G. Financial Advisory Services, Inc.
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1 The Dow Jones Industrials Average is an unmanaged index of 30 major companies which cannot be invested into directly. Past performance does not guarantee future results.
.3 The S&P 500 Index is an unmanaged index of 500 larger companies which cannot be invested into directly. Past performance does not guarantee future results.