Shale Oil, Interest Rates and Known Unknowns

Author: Petar Kordic

In late 2014, an experienced oilman was discussing booming US oil industry on Bloomberg TV. He was long enough in the game to remember both booms and busts but he pointed out one peculiarity about this new age of crude – Oil & Gas conferences were dominated by bankers. He made a joke on cuff links, a fashion details not so popular with oilmen.

In US, hydraulic fracturing has been around for more than 6 decades, but only in the last 10 years shale oil became unavoidable part of discussion on US oil industry. Today, it’s the most important factor when discussing oil, globally. We will discuss two factors that contributed to the rise of hydraulic fracturing: high price of oil, and vast supply of money due to low interest rates. As graphs below show, a drop in interest rates after 2007 crash, and rise in price of oil in second quarter of 2000’s created a potent mix which allowed oil industry to invest in shale and try something that was thought to be possible technically however very expensive – to bring shale production to a level expressed in millions of barrels per day.

WTI Price, Source: TradingView


US Shale Oil production, Source: EIA

In 2000’s we witnessed growth in price of crude, which was caused by increase in demand for energy, and in later stages by interruptions in Iraqi production primarily. In the year 2007, extreme volatility started to occur and it lasted for two years. Financial crisis and attacks on installations in Iraq caused the price to bounce from one extreme to another. In second half of 2009, price passed the $70 mark and managed to stay above that level for next 5 years, trading between $80 and $110. Such a high price wasn’t unnoticed – not only by consumers at the gas stations, but also by investors and banks.

Fed interest rate, Source: GlobalRates

At the same time (2009-2015) interest rate dropped to 0.25. This was Fed’s response to the financial crisis, where it was recognized that markets need liquidity. With all the turbulence in equity markets in 2007 – 2009, expensive crude was able to attract investments easily. According to Bloomberg, in a year 2000 funding from stock and bond sales was at $24.2 billion, while in 2014 funding reached $209 billion. Shale oil production went from 0.4 mmbd to 4.6 mmbd at its peak in early 2015. Eagle Ford in Texas and Bakken formation in North Dakota led the charge.

Source: EIA

Today, debt is coming back with a vengeance. More and more of operating cash flow is being consumed by debt servicing. Unlike in the 1980’s when crude price crash caused many banks to go bust in the Midwest, this time lenders are a little bit more cautious and Bloomberg data shows that between today and 2009, equity and debt sale covered approximately 50% of loans and debt restructuring in E&P sector in North America.

December decision by the Fed to increase rates from 0.25 to 0.5, and possiblefurther hike could be a sign of things to come. At this moment it is hard to see anything positive in the shale oil sector, except for increase in efficiency. There are some opinions that whenever the price of crude recovers, shale will follow and bounce back. After all, US currently has 59 billion barrels of oil in shale, second highest reserves in the world. But we must take into consideration scenario where oil prices remain low for some time before recovering, causing large scale bankruptcies and write-offs. Will capital intensive shale oil sector be able to attract capital easily again? Can it operate in the environment where money isn’t cheap due to a mix of higher interest rates and price risk? OPEC and few oil producers outside of OPEC certainty hope that the answer is no.

© 2012-2016 Tanya Rawat. By posting content to and from this blog, you agree to transfer copyright to blog owner.

To be or not to be


Author: Kunal Damle

All this week has been about Greece with the ups and downs that started off with Capital Controls being imposed on Greece. It was a tough nut but sadly it came to this after all the brinksmanship that was involved. Equity markets swooned over this Greek Swan Song. On the other hand was China, were the markets were on a roller coaster ride of their own, with equity markets extremely volatile; down over 25% in the last month.  One can only say that volatility with a capital ‘’V’’ will be the name of the game.

Indian equities were resilient and saw decent gains going into the week. I would be a little cautious with earnings still weak and the stock markets euphoric; not exactly a recipe for success. Watch out for blips in the coming week.

Closer home GCC markets have been subdued, with Oil correcting to a 12-week low. Commodities have been hit hard on the back of USD Strength. With earnings season round the corner implies most investors would be on a wait-and-watch mode. UAE Stock market especially DFM has been resilient but most of the activity has been in the mid-cap names; eg: Amlak, Amanat, DSI et cetera. Dubai as a market looks to be in a better shape and earnings could be the trigger for the market. Turkey looks apprehensive as June CPI numbers printed at the lowest since 2013 at 7.2%. The outlook for next week, not mutually exclusively depends on the Greek plebiscite.  South Africa too is taking cues from the happenings in Greece.

Finally today will be when the Greeks decide on whether to Vote a “Yes” or “No”. Whatever happens equity markets are in for a choppy week.

© 2012-2015 Tanya Rawat. By posting content to and from this blog, you agree to transfer copyright to blog owner.


Liberté, Égalité, Fraternité (Market Wrap- June 28th)

Coverage: Saudi Arabia, Turkey, UAE, Egypt, Nigeria and South Africa


Author: Tanya Rawat

The week starts off with euphoria offline as the US Supreme Court in a landmark ruling legalized same-sex marriage nationwide (Source: Bloomberg Article on the ruling). I personally am of the strong opinion that everyone should be free to love anyone they deem fit. By legalizing the same, the ruling ensures that everyone is viewed equally by law in terms of financial and taxation purposes.

Our opening rhetoric is on a high probability of returning to a Greek Dra(ch)ma and a likely escalation in terrorist acts in the region. Markets are likely to slide slower in the Ramadan season with limited volumes, correction in Saudi Arabia as pre-opening euphoria subsides and as terrorist activities creep closer to the GCC region with attacks in Kuwait and Tunisia.

Naira remained stable at 199/$ while the Rand hit one weeks lows versus the dollar at 12.2395/$ as rising consumer inflation deems a rate hike imminent in the next South African Reserve Bank (SARB) meeting in July by 25 bps from 5.75%. This is set to continue hurting the JALSH Index.

US 10Y Tsy yields continues to edge higher at 2.40% levels and I expect Dollar to continue strengthening this week primarily on the back of see-saw Greek talks with ECB.

© 2012-2015 Tanya Rawat. By posting content to and from this blog, you agree to transfer copyright to blog owner.



Saudi Arabia: An ‘Emerging’ Frontier

“Think you could get me on ‘Amercan Idol’?”

Author: Tanya Rawat

Published in Global Risk Insights

Saudi Arabia opened its markets to international investors on June 15, 2015. It was the culmination of journey which started in July 2014 when the Saudi Cabinet took the decision to open the markets to Foreign Direct Investment (FDI). While this indeed is a watershed moment in GCC scripts, all eyes are on its 2018 inclusion to the MSCI Emerging Markets Index. Apropos not being included in MSCI’s Consultation List this year, the earliest it would be, is June 2016. In previous upgrades, MSCI has one year of consultation period followed by another year from when the announcement is made before the inclusion.

So, what makes it an ideal candidate for inclusion? While the size of its economy (Nominal GDP) equals that of  Turkey, its appeal comes from its fixed peg to the US Dollar that makes it less susceptible to currency fluctuations. With a market capitalization of half a trillion US Dollars and an average daily trading volume (three month average) amounting to USD 1.5 billion, it dwarfs most Emerging Market (EM) countries. The oil boom enabled it to accumulate the world’s third largest FX reserves at USD 700 bn, just behind China and Japan. Its Public Debt is non-existent at 1.8% of GDP compared to the EM 2015 expected average of 37.4%. Within the GCC universe, it is the lowest. Its young demographic is a favourable economic opportunity; a population of 31 million (2015 expected) with a median age of less than 25 years. Nominal GDP per capita stands at a highly competitive $24,847 and Real GDP expected growth rate in 2015 stands at 3% which is in line with 2.9% for the EM universe.

Yet with all its advantages, some sticky challenges remain. As oil  revenues account for 85%-90% of government revenue at a stable production level of 9.6 million barrels per day, its Achilles heel was exposed as oil prices plunged 59% in the last quarter of 2014. This has repercussions for Saudi Arabia which will face its worst fiscal deficit of circa 15% of GDP (assuming an average oil price of $50 per barrel)(see graph). Also the fairly young work-force of nationals are primarily employed in the public sector and female labour force participation rate remains dismal at 18% versus 65% for men.



Addressing these labour market challenges, driving job growth and diversifying its revenue base remain key to the emergence of Saudi Arabia as global competitor economy which is more than an ideal candidate for Emerging Market status.

© 2012-2015 Tanya Rawat. By posting content to and from this blog, you agree to transfer copyright to blog owner.


Indian Swansong

cover-image (1)
Author: Nilotpal Addy

“Fragility is the quality of things that are vulnerable to volatility.” – Nassim Nicholas Taleb

Indian markets have been the king of swings in the past few weeks. Pick up any asset class that you may, and you will be enthralled at the volatility this market has provided to its investors. It was not long ago when the Bunds swung from 0.05% to 0.50%, which left many bond traders across the world gasping for breath. Wait till you look at the below data and determine where the Indian markets fared in this royal rumble:

India 10yr Benchmark (Old)old
Source: Bloomberg

India 10yr Benchmark (New)new
Source: Bloomberg

India 1yr OIS
Source: Bloomberg

India 5yr OIS
Source: Bloomberg

If you were wondering these were triggered by fears of Grexit and a possible surprise rate hike by the Fed in June, you would be caught on the wrong foot. If you notice the graphs carefully, it is evident that all of these market actions got triggered on 2nd June – the D-day when the Central Bank of India (RBI) under the helm of the able Dr. Raghuram Rajan announced the June Monetary Policy. The market was expecting a 25 bps rate cut on the back of easing inflation in the country. The fact that inflation was moving in line with the guidance set by the RBI under recommendation from the Urijit Patel Committee targeting 6% CPI inflation by January 2016 increased the market mojo. There were players who even expected a 50 bps rate cut with 25 bps being front loaded (just in case the RBI fell short in countering the Feds rate hike move later).

If you ask me, I believed that a rate cut was not in the offing. This was simply because Dr. Rajan has always been skeptic in his moves. More often than not he has disappointed the market punters by staying put (he put a rate cut on hold from September till December 2014 until he decided to give in with a surprise rate cut in January 2015, not so much of a surprise for a few considering he cut immediately after the CPI numbers continued to confirm a declining trend). If we were to look at the state of things when he was handed the mantle from Dr. Subbarao, you can’t really blame him for this approach. The Indian economy was in tatters, the world had started to give up on the Indian markets, and the currency was untamed (to name a few problems he had to deal with).

So much for all the expectations, Dr. Rajan delivered a 25 bps rate cut. But that is not what he just did. Being his usual self, he left the market with no clues for the next elusive rate cut. He had his doubts on the upcoming monsoon, and rightly so after predictions of another weak monsoon. He alarmingly left the market to fend for itself amidst multiple other geopolitical and economic concerns. Meanwhile at the other end of Asia, the Chinese equity markets had almost doubled since the start of the year. Foreign investors found the perfect excuse to take money out of the Indian markets. Rates traders started to shrivel, and the market started its swansong.  Bond/OIS started moving in a haywire fashion until inflation seemed to be taking a strong stand. CPI last month came in at 5.10% which was pretty much as per expectations. This was followed up by a decent trade deficit of $10.40 bn., which gave the markets a much needed booster to crawl up from the bottoms.

Last week Govt. of India along with the RBI decided to mark up the FII bond investment limit in India from USD to INR. The current bond investment cap is at $30 bn which has been set at somewhere around INR 50. Spot is currently trading at levels around 63.50 – 64.00. So this means a possible increased investment limit of $8-9 bn. This has provided a much needed fillip to the bond yields, which has now rallied from 7.88% to current levels of 7.70% – 7.75%. With Greece talks in its last leg and an expected Fed rate hike in September (25 bps hike expected), the upcoming weeks will determine the direction for the markets.

As I am writing this, there is some positive news trickling in for a renewed Greek settlement. I can already see some flutter happening in the markets. Bond and OIS markets have started to book some profits. Markets seem to be calming down now a bit as we brace for some movement in the commodities space. I am looking forward to the next set of data due early next month. Till then look out for this space, as I go fishing for some fresh cues in this appalling Mumbai rains!

© 2012-2015 Tanya Rawat. By posting content to and from this blog, you agree to transfer copyright to blog owner.


Markets: Turkey and MSCI EM Spread Analysis

In Turkey, as we postulated last week, we are bullish primarily because valuations are extremely attractive in our coverage universe; 12-month forward valuations show Price-to-Book at 1.33x and Price-to-Earnings at 10.59x.

1 year spread analysis shows us that with respect to MSCI Emerging Markets Index, it is currently 2 standard deviations below the mean before the mean reversion kicked in post elections.

turkey and msci em

Source: Bloomberg

Switcheroo (Market Wrap- June 21st)

Coverage: Saudi Arabia, Turkey, UAE, Egypt, Nigeria and South Africa


Author: Kunal Damle

A mixed week comes to an end with most of the stock markets at multi-year highs but with mounting concerns coming in from multiple fronts, it doesn’t seem like it is going to get any easy.

With the FOMC out of the way, most emerging markets heaved a sigh of relief that the rate increase rhetoric is more subdued than one expected. We expect one rate rise before the end of this year, but more subdued increases going into 2016. With commodity prices having come off and inflation under control, the risk to USD will weigh on the Fed’s mind than anything else.

Most emerging markets (EM) saw the dovish stance of the Fed as a breather to rally on. Both the Nifty and Sensex in India rallied with even monsoon looking like being normal. In Turkey, as we postulated last week, we are bullish primarily because valuations are extremely attractive in our coverage universe; 12-month forward valuations show Price-to-Book at 1.33x and Price-to-Earnings at 10.59x. South Africa closed up 1.86% on the back of a strengthening Rand.


Source: Bloomberg

Closer to our region, last week marked the beginning of the Holy Month of Ramadan. Markets have historically tended to be very light on volumes and with Ramadan coming in during the summer months would put even more pressure on the markets. The Saudi Markets opened to foreign investment last week, which as we expected was a very tepid event. Look forward to Saudi markets seeing more profit taking with no triggers in place. We see markets being flat, low on volumes till mid – July.

The coming week look far murkier with Grexit now looking imminent. Emerging markets looking ripe for an downward correction while look to USD strength against most EM FX.

© 2012-2015 Tanya Rawat. By posting content to and from this blog, you agree to transfer copyright to blog owner.


Investor Psyche: Moot Point or Mute Point?


Author: Kunal Damle

Lately with all the negativity; both economically and politically, it certainly is a very uncertain time to be investing in any asset class. Cash is indeed king. Rhetorically, should one look beyond all the white noise or should one be concerned by being inundated with every news flow and event that occurs?

With the advent of the information age, news flow has got a lot more faster and therefore more efficient. Twitter and/or other news wires available on our all our devices tend to sway investor moods with the news flow. But as an investor, one does need to look beyond all the white noise and differentiate between value traps and cash cows.

In India, the stock market this year has suddenly turned ugly with both the indices falling off the cliff and investor mood getting very jittery.


Source: Bloomberg

Now, relatively speaking have things suddenly got a lot worse this year or were they just a lot better last year? The benefit of hindsight shows the true picture lies somewhere in the middle. So how does an investor look at it for their investments? With the benefit of experience, now I would say don’t focus on the headlines/sensationalism and look at the original story.. do you still want to be invested or not? Stay the course and stay invested, in time this will generate a decent return and bear fruition. Discipline always pays off as long as the company invested in is fundamentally strong.

At the end it would be wiser to focus on the fundamentals rather than focusing on the noise that surrounds the financial market place. Over the next few posts, I will emphasize on what it means to focus on the fundamentals.

© 2012-2015 Tanya Rawat. By posting content to and from this blog, you agree to transfer copyright to blog owner.

©  Family Guy Images

Monte Carlo Simulation: Application to Financial Markets Part I


Author: Tanya Rawat

The application to financial markets is arguably fairly straight forward.

Monte Carlo Simulation using Geometric Brownian Motion.
We define the path of the price in two parts: drift and volatility.

Drift is the most highly likelihood of expected return (constant) and volatility is the shock (stochastic).

Formula is:
Expected Future Return = Expected Return + Z (random Z value)*Volatility
Future price = Current price*Exponent(Expected Future Return)

We can make 3 assumptions about drift:
1. Risk neutral argument as used in the Black-Scholes model. Here we assume the returns will be the risk-free return
2. Random walk. Here we assume 0 returns as the past is not a precedence to the future
3. Efficient Market Hypothesis (EMH)

1. Take 10Y price history (if available or the maximum)
2. Find the return and volatility over the 10Y period
3. Find the 1D return and volatility from this sample
4. Run simulation 1000 times

The next post will discuss application to our markets with 1 month price forecasts with three scenarios viz. bull, base and bear case.

© 2012-2015 Tanya Rawat. By posting content to and from this blog, you agree to transfer copyright to blog owner.

Steepening Turkey 5Y USD CDS


Source: Bloomberg

Powered by