FOMC + OPEC Week

What We Anticipate

The Setup

Friday’s NFP jobs report again came with some shock and surprise, but don’t be confused by the headline number. Truth is it was a mixed report. Let’s break it down.

On the one hand NFP came in much higher than expectations @ 339k vs 190k. On the other hand, we saw an uptick in the unemployment rate to the 12-month range high at 3.7%.

This is what I’ve been on the lookout for a while now. Break > 3.7% and we’ve likely bottomed. This is important and will make the Fed nervous about further rate hikes. Average hourly earnings also declined both MoM and YoY, with a clear downtrend in place on the YoY basis.

So even though new jobs created was a beat, the uptick in unemployment shows that many people have either given up looking for work or taken part-time jobs. That’s very notable. Let’s see if J. Powell acknowledges it at the FOMC presser this week. Odds have shifted firmly in favour of a June pause.

What Does This Mean?

If the Fed decides to hit pause this week, it won’t guarantee that rate hikes are over. Multiple committee members have signalled they prefer higher rates for longer. In fact the Fed Funds futures suggest we will be in the same range (500-525) at the end of calendar year 2023.

It’s important not to over-interpret the pause to mean a pivot is near. Over the past couple of months, the market expectations have more closely aligned with the Fed’s, meaning that even though inflation has come down, that may no longer be enough to satisfy lower rates.

This also means the risk of a recession has likely decreased in the short term. The uptick in unemployment is likely just the beginning, however. Inflated borrowing rates + higher unemployment = slower growth. I’m not sure how this ends, but it’s clear there is more pain ahead for the average American household.

The Week Ahead

There’s not much on the economic calendar for this week, aside from Monday’s PMI numbers. The focus is more on next week’s CPI report just before the FOMC rate decision on the 14th. I’m not going to comment much on this week’s activities, but here’s the calendar.

OPEC Meeting

On Saturday the OPEC+ group began meetings in which they may agree further oil output cuts this weekend.

So what’s on the table and why does it matter?

According to sources close to the matter, output cuts could amount to 1 million bpd on top of existing cuts of 2 million bpd and voluntary cuts of 1.6 million bpd, which took effect in May.

If approved, this would take the total volume of reductions to 4.66 million bpd, or around 4.5% of global demand, according to Reuters.

If the cuts proceed, we can likely expect an uptick in gasoline prices at least in the short term. The energy market has also been experiencing notable weakness, and sectors tend to go from laggers to leaders eventually.

But what do the seasonal trends say? I always remind myself to bring up the historical charts any time we’re talking about commodities and the corresponding equities.

Oil Seasonality

20 years of price history shows crude oil prices tend to climax right at the start of July, corresponding with peak travel season for Independence Day (4th of July) in the US. Following that, it’s a slow bleed throughout the remainder of the year. This trend holds when we look at the 10-year timeframe as well.

XLE Energy Sector Seasonality

For the energy equities, however, the peak tends to occur on June 8 (across timeframes) and this trend holds for the entire history of the XLE Energy Sector SPDR Index Fund. It doesn’t bottom until late-September on average.

What Can We do With This Alpha?

Personally I like to trade leaps options, which are long-dated calls and puts that have months until they come to maturity. This allows me to be a little bit wrong on my timing, yet still bank from the eventual outcome.

Given the energy sector’s overall weakness this year, I see no reason for the seasonal trends not to play out. Therefore I’ll be looking for opportunities to buy long-dated puts on XLE if we see ongoing weakness in oil prices and their corresponding equities following the fist week of June. Then as the third quarter comes to an end, I’ll be looking to get primarily long again.

Note* we’re talking in perfect world scenarios here. There’s no guarantee of price moving in a particular direction over a certain time period. However, we know that travel tends to peak around the Fourth of July holiday, and particularly the weekend preceding it. This year July 1 happens to be a Saturday. It doesn’t get much better than that. Many Americans will opt for either a 4-day weekend or to start their holidays around then.

So my two strategy options are short plays on XLE in early-mid June and a potential trade on SCO in early July. The latter is MUCH riskier as this is a 2X leveraged short ETF and entry/timing are critical.

Conclusion

I hope this information was helpful. If so, please feel free to write me a comment. If it was boring let me know too!

As well, if you’d like more information about trading equities my DMs are open on Twitter @thetradingtank. Cheers.

Jay Charles

Editor in Chief, The Trading Tank.

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