Sometimes in life, you feel like a rabbit sitting in the middle of the highway facing an impending truck with high beam lights staring at you. You freeze in your tracks, paralyzed with fear, waiting for the truck to hit you. Alternatively, you can snap out of it and proactively try to do something to avoid it. Now is such a time.
It sure feels like the rabbit situation as we head into Dec. There are a number of red flag warning signs in the markets now that indicate that there is a crisis waiting to happen in Europe into winter. It is linked to Russia and its war with Ukraine.
The EU’s Achilles heel had been revealed since Feb as Russia started its invasion of Ukraine. Russia supplied 40% of the EU’s gas requirements in 2021 and the taps are slowly being turned off as the war has affected the energy sector. Since having a colder than normal winter in 2021, European gas prices have been up more than 400% to date.
The average European household monthly energy bill is likely to reach EUR 500 in 2023, triple the amount paid in 2021. That energy bill could represent over 20% of the household disposable income next year. European governments have already approved over EUR 375 billion in aid to allay these costs. It may not be enough if we hit a colder than normal winter in a few months’ time, no thanks to climate change. 2021 also had an unusually cold winter.
Russia has the largest natural gas reserves in the world and the EU is highly dependent on it. The Ukraine war had upped the high-stakes poker game as Russia uses gas supplies to try to arm-twist the EU to drop its support of the war. NATO countries have been sending more weapons to Ukraine to fight its troops on the ground.
To avoid an energy crisis, Europe is trying to build up its gas reserves as quickly as possible. As of mid-Sep, it has filled more than 84% of its gas storage capacity but is it enough if they get colder than normal winter again? While it is also trying to reduce its gas use with restrictions and conservation methods, a particularly frigid winter or faster Russian cutbacks could completely deplete the EU’s gas stockpiles very quickly.
The other major factor working against the situation is the inflationary climate that has caused central banks to aggressively hike rates, following the lead of the Fed. Covid had caused world demand and supply chains to collapse totally by more than 90+% in 2020 with lockdowns. Governments then started to print money like no tomorrow to support their economies.
America’s Universal Basic Income (UBI) experiment of monthly $1.2k cheques had resulted in adverse inflationary pressures when the world moved to the endemic stage as it recovers. In 2021 alone, America increased its money supply by 30% and added to its already huge deficit.
After the collapse in global demand to a much lower base because of Covid, any increase would have easily sparked inflationary flames. The Fed’s three subsequent 75 basis points rate hikes have convinced investors that it is so serious about combatting inflation that going into a recession is a necessary evil
So I am quite certain that we are going to see a European shit show happening in a few months’ time. EURUSD has already dropped more than 5% within a matter of weeks. GBP’s troubles also starting to show. The new government recently pledged to cap energy prices in the next 2 years and proposed generous tax cuts. Germany also had to recently take over national and Russian energy assets in order to better control spiralling prices.
The stock markets are reacting very badly to the above news. Coupled with 2 other event risks we discussed before, all this is leading to an explosive end to 2022. We have the American mid-term elections and also China’s big meeting to re-elect Xi for a longer term. All these are happening in a few weeks’ time into early Nov.
Things are turning more negative now as bigger and wild market swings become common. Banks are also trying to wind down their trading books into year-end and this makes liquidity a growing issue too. It will be a tough 3 months from here till Christmas as we try to figure out our stock portfolios. There are so many moving variables that are out of our control. Putin threatening the nuclear card makes it even tougher to second guess.
The clearer trend is currently in currency trading. With the aggressive Fed hikes of 75 bps for the last 3 consecutive meetings, the USD has been strengthening against all currencies as the rest of the other central banks try to catch up. JPY is a definite loser as BOJ refuses to hike rates due to its unique issues. It is a clear sell.
GBP after the queen’s passing is getting hammered as the new PM Truss hands out a 2-year energy bill subsidy candy and tax cuts like there is no tomorrow. EUR is a mixed bag of disorganization as each country tries to frantically prepare for the cold winter. Even mighty Germany is taking over its big utility firms as well as the Russian ones located in the country.
There is the impending winter gas crisis that might tip Europe over the edge if the Ukraine war turns for the worse. This is a shit show that is waiting to happen and the probability is increasing every day. I am still trying to trim my portfolio of the weaker stocks and jumping into FX positions which have a clear USD strength trend (short EURUSD, Long USDJPY). May even buy some gas oil futures as a pun.
Big question marks: Putin, will China open up again? I am still optimistic that we may see a recovery into 2023 but talk of going into a recession is getting louder. These are very uncertain days which we have to weather through over the next few weeks.
We just had a nice family vacation in Bangkok last week before our older son returns to the UK soon to finish his final year. It was a great family bonding session. Also celebrated my 29th wedding anniversary last night and the completion of our younger son’s dance performance that happened on Friday evening. Looking forward to a new consultancy project and the Skillsfuture course that will start in mid-Oct for 10 weeks.
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