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Doha Production Freeze Meeting Breaks Up; Guns N’ Roses Still Together


Can anyone honestly say that they expected the crude production freeze meeting held this past weekend in Doha, Qatar, to end in anything other than tears? If you think about it, the world was pinning its hopes on Vladimir Putin, The king of Saudi Arabia, and the Iranian Supreme Leader coming together to an agreement where each side would have to give up something significant, trust each other’s word, and actually not cheat on one another for a considerable period of time. Crazy, right? And yet this ridiculous notion of a meeting sparked one of the greatest short-covering rallies of all time, and not just for crude oil. This was the impetus for the tremendous rally in stocks, corporate debt, and emerging markets that we have witnessed since mid-February.

To put it into a pop-culture perspective, the mercurial rock band, Guns N’ Roses, announced a couple of months ago that they would begin a world-wide reunion tour. This was right around the same time that the Doha Production Freeze Meeting was announced. The band’s most popular members, Axl Rose and Slash, can’t stand to be on the same continent as one another. These guys have caused city-wide riots when one of them (usually Axl Rose) decided—either right before or during a concert—that he hated everyone in the band and walked off stage.

The band has not played together since 1993. At the time of the reunion announcement, I would have given you at least 5:1 odds that the Guns N’ Roses reunion tour had a better chance of happening and actually finishing versus Doha. The Guns N’ Roses Tour is still happening; Doha on the other hand, is dead.

So what happens in a post-Doha world? I can see crude falling back to the mid to low $30s per barrel, but I don’t see an automatic crash back to the lows of February ($26 per barrel). A lot of production has been taken offline which could mean that there is sort of a production cap whereby the Saudis maintain and actually gain market share. However, I believe there is one scenario where crude can fall back to $26 per barrel. In addition to ramping up production, Iran has been undercutting the Saudis by discounting their oil prices to Asia. A wise move may be for them to take it a little easy on that strategy, especially since the Saudis seem to be in the mood to show the world who’s boss. Unfortunately, the Iranians are not exactly known for taking it easy. If they don’t, the Saudis, who are prepared for a long and drawn out battle, may decide to pump the Iranians into oblivion, similar to what they did to U.S. shale producers. If that scenario happens, then the supply glut builds, and with an absence of growth in demand, crude can plummet again.

I continue to believe that risk markets go where crude goes, and right now, that direction is down. Real money has gorged itself on a tidal wave of new corporate investment grade issuance over the last two months as risk markets rebounded. At the same time, shorter time horizon investors (hedge funds and nimble money managers) covered tremendous shorts in commodities, stocks, emerging markets—and high-yield corporate bonds. The belief that crude had stabilized and would grind upward as the year progressed was pinned largely on Doha.

That, in turn, is what drove the rally in risk assets. Now, that vital pillar is gone. This, combined with the slowdown in global growth, and the ineffectiveness or outright damage caused by global central bank monetary policy will, in my opinion, bring back to risk markets the weakness, illiquidity, and volatility we saw earlier in the year. The return may not all happen at once, but I believe it is going to happen.

With regard to positioning on the yield curve, I continue to believe that the best part of the curve—the part with the most upside—is the 10-year and the Long Bond. The front-end and the belly of the curve can definitely catch a bid in a flight to quality, but I think the 10-year can get down to the low 1.60s pretty easily, especially with the European Central Bank (ECB) meeting this Thursday, April 21; the Bank of Japan (BOJ) on April 28; and the Federal Reserve on April 27. I continue to like high-quality municipals on the longer end of the yield curve. They have had a nice ride, and I think it will continue, given my opinion on comparable duration risk assets.

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