Is it just unreasonable optimism?

In January 2017, JPMorgan published “2017 Economic Outlook. Seven key economic trends in 2017”. The report highlights an encouraging likelihood of positive economic development.

The report highlights that tax cuts for businesses and households combined with a comprehensive package of reforms designed to encourage investment and promote growth. The stock market responded to the presidential election by climbing 7% in the fourth quarter of 2016, creating almost $2 trillion in new wealth. This winter’s anticipatory equities surge could be followed by a boost in GDP as the implications of tax reform become clear. Nonpartisan tax economists estimate that the planned stimulus could raise GDP by as much as 1 to 1.5 percentage points.

According to JPMprgan, after years of relatively sluggish growth, the US economy is forecast to grow 2.3% in 2017 and could bring a surge in labour productivity as the business cycle nears its peak and capital investments in technology begin to pay off. Stable wage growth and low inflation are likely signs that the economy still has room to grow, so a period of strong expansion at the top of the business cycle remains a possibility.

The report highlights that “global oil glut began to evaporate in 2016. with crude oil prices rising 45% following a steep reduction in exploration and an OPEC agreement to cut production. As global demand climbs to meet current production capacity, rising oil prices will likely eventually make North America’s shale fields profitable once again.”


I think that hopes of JPMorgan could be viewed as over-optimistic, considering financial health of global economy and geopolitical circumstances. Therefore, let’s look at facts and see whether the report make sense.

OPEC Econ Growth

The OPEC Monthly Oil Market Report, published in April 2017, indicates that the U.S. economy is expected to grow at 2.2% but also points out that there is a concern that the depth and the timeline of envisaged reforms by the U.S. administration remain uncertain. It also highlights that ongoing high sovereign debt levels in some economies, several weak banking sector institutions and political uncertainties are all issues that need to be closely monitored.

The report also specifies that India and China continue to expand at a considerable rate. India’s growth is forecast at 7.0% in 2017, after growth of 7.5% in 2016. China is also forecast to expand at a slightly lower pace of 6.3% in 2017, compared to 6.7% in 2016.

The fact that China will continue to grow is not a surprise. The fact that the second biggest world’s economy and one of the biggest energy consumer is expected to slow by 0.4% in 2017 good enough to understand that it might impact demand growth.

OPEC indicates that among the most important uncertainties for global economic growth, policy issues carry considerable weight, as do monetary policy decisions, which remain particularly important in the near-term.

Moreover, global debt levels remain high in some key economies; an issue that will probably require further attention if interest rates rise gradually and the US dollar continues to strengthen. Finally, sustained stability in commodity prices are viewed as necessary for continued improvement in global growth.

The language of international diplomacy and the language of OPEC are, in fact, identical. The style used by OPEC might suggest that the scale of the potential impact which could be triggered by political uncertainties, high debt and monetary policies is substantial.

I would think that “The Global Oil Supply & Demand Outlook to 2030” issued by McKinsey Energy Insights  appears to be in line with the view of OPEC.

MCK Outlook 1

MCK Outlook 2

The forecast indicates that despite the decline of oil inventory at accelerate rate, the annualised liquids demand will be significantly reduced due to slow global GDP growth. Moreover, it is ongoing process which has started in 2015.

In addition, EIA’s report What drives crude oil prices? February 7, 2017 | Washington, DC An analysis of 7 factors that influence oil markets, with chart data updated monthly and quarterly” published in February 2017, suggests that OPEC is no longer the main influential factor which causes shifts in the oil price.


EIA demand report 1

EIA demand report 2

EIA demand report 3

 EIA demand report 4

EIA demand report 5

EIA demand report 7

As far as I understand, neither OPEC nor inventories are no longer the main factors because oil prices are being influenced by money managers and the U.S. shale producers.

However, one aspect remains unclear. If money managers are the main players, why would they suppress the oil price for so long? Is it possible that money managers have missed something important which pushed the process out of control? I guess it might be the case.

Possibly the impact of technology leading to a significant improvement of recovery rapid reduction of shale oil production costs followed by a dramatic increase of the U.S. shale production. Perhaps, it was too late to exit the game as they would incur huge losses.

At least it explains why almost all stock analysts recommend to buy shares of oil and gas companies shares despite the fact that those companies are in red continuously within a few years.

It would also explain why JPMorgan published a forecast which appears unrealistic.

After I went through the report published by EIA, it is difficult to think that analysts from one of the leading global banks were not aware about it.

It is also impossible for them not to know that Donald Trump’s isolationism might be severely damaging for the U.S. economy. My assumption is based on the fact that during the process of globalisation, the world economies became vastly interconnected. Policy of isolationism could turn up to be not only the main cause for unpleasant economic climate but also trigger devastating consequences for the United States itself. It includes total collapse of the U.S. economy as a worse case scenario.

The report issued by the World Banks in February 2017 confirms my view.


If we look at composition of the U.S. financial market, it is apparent that its biggest segment is stock market capitalisation. As far as we know, market capitalisation is defined as the aggregate valuation of the company based on its current share price and the total number of outstanding stocks. If we translate it into our regular ordinary language, it would mean that market capitalisation is nothing more that just monetised sentiments.

Since market capitalisation is the driver, investor’s confidence is vital. If we follow Donald Trump’s “alternative logic” which the basis for his policy of isolationism, we may understand that it contains deadly hidden danger because, if fully implemented, it will dramatically reduced growth potential for corporate America.

Trump’s unpredictability and spontaneous decision making coupled with lack of transparency may vaporise investors’ confidence.

Besides, the same chart shows that that the U.S. assets are lower in value than its liability. It is not difficult to imagine what will happen if confidence is lost.

The leading financial institutions are concerned about unpredictability of the current US administration. Worries over Trump’s approach to trade, taxes, financial regulation and climate change clouded the start of the International Monetary Fund and World Bank spring meetings, even amid improved optimism over global growth prospects.

Trump’s immigration policy has already started to deliver its first results. Contraction industry is already facing labour market constrains and price escalation for building materials. Whereby his H1-B visa reform would reduce talents inflow and will eventually harm high-tech industry. In the long run, the U.S. might pay the ultimate price for this experiment by losing its competitiveness.

IHS Markit confirms that it is likely to be the case. At 52.7 in April, down from 53.0 in March, the seasonally adjusted Markit Flash U.S. Composite PMI Output Index signalled a further slowdown in private sector output growth. The latest reading pointed to the weakest rate of expansion since September 2016.


There were signs of a squeeze on operating margins in April, as input price inflation reached its strongest since June 2015. At the same time, prices charged by U.S. private sector firms increased only marginally and at the slowest pace since November 2016. The composite index is based on original survey data from the Markit U.S. Services PMI and the Markit U.S. Manufacturing PMI. 

Growth of business activity across the service sector continued to moderate from the 14-month peak seen in January. This was highlighted by a fall in the seasonally adjusted Markit Flash U.S. Services PMI™ Business Activity Index1 to 52.5, from 52.8 in March.

The latest reading was above the 50.0 no-change value, but signalled a weaker rate of business activity growth than the post-crisis average (55.3). New business growth remained moderate in April, although the latest upturn was stronger than the 12month low seen in March.

April’s survey suggested a lack of pressure on operating capacity, as backlogs of work declined for the third month running. Subdued demand growth and lower volumes of incomplete work acted as a brake on staff hiring in April. The latest rise in employment numbers was only marginal and the weakest since July 2010. 

Meanwhile, cost pressures intensified at the start of the second quarter. The latest increase in input prices was the fastest since June 2015, but average charges across the service sector rose at the slowest pace for five months.

April data signalled a sharp and accelerated rise in average cost burdens across the manufacturing sector. The rate of input cost inflation was the fastest since December 2013, which survey respondents linked to rising commodity prices (particularly metals). Meanwhile, pressure on margins from higher input costs contributed to the strongest increase in factory gate charges for almost two-and-a-half years.


According to Chris Williamson, Chief Business Economist at IHS Markit, the PMI data suggest that a GDP growth rate of 1.1% after 1.7% in the first quarter. “The vast services economy saw the weakest monthly expansion for seven months and the manufacturing sector showed signs of growth slowing further from the two-year high seen at the start of the year, despite export orders lifting higher.

Chris Williamson also highlighted that The labour market also continued to soften. The surveys signalled a marked step-down in the pace of hiring in March which has continued into April. The latest survey data are consistent with only around 100,000 non-farm payroll growth. 

But then again, maybe I just do not understand how it works. Because most majors are planning strong production growth until at least 2021. Royal Dutch Shell, Exxon Mobil, Chevron, BP, Total, Statoil and Eni – plan to grow output by a combined 15 % in the next five years. It could take another year before their cash from operations exceeds their combined capital spending and dividends,

Citigroup estimated that the major oil producers will need to sell their oil for between $55 and $60 per barrel this year just to cover those two big costs.

Chevron Corp, which expects positive cash flow this year, says it could generate an additional $3.5 billion selling its oil at $55 a barrel.

Exxon Mobil Corp and BP have signalled they will spend more on expansion projects this year than in 2016, a sign of optimism about stronger pricing. Higher production could deliver fresh money that can be used to hire workers, reduce debt or boost shareholder payouts.

John Watson, Chevron’s chief executive, said in late January he wants to “maintain and grow” the oil giant’s dividend, calling it his top priority. Chevron is winding down construction of several big projects, helping to stem its past spending rate and generate more revenue as new operations come online.

France’s Total SA is raising its dividend by 1.6% this year, the first time in three years, and says it expects to cover its capital spending and cash dividend with oil above $50 a barrel.

However, McKinsey & Company issued a report “BEYOND THE SUPERCYCLE: HOW TECHNOLOGY IS RESHAPING RESOURCES” whereby it highlights the striking characteristics of the down phase of the super-cycle was the unravelling of what had been a close correlation between the markets for coal, copper, iron ore, and other commodities and those for oil and gas.

While these markets rose in unison, seemingly as a monolithic group, during the upswing, divergences in supply and demand fundamentals for each commodity have meant that the correlation no longer holds. It is expected that this divergence to continue over the next 20 years, with ongoing shifts in demand and supply for oil, natural gas, thermal coal, iron ore, and copper, as well as for niche resources such as lithium and rare earth metals.

demand growth

cost of renewables

According to Trading Economics, price of WTI would start declining in Q3 2017. Whereby Brent is estimated to stay above $50 until 2020. If, besides the above, we would take into account Brexit, a wide range of uncertainties and rising political tensions worldwide as a result of Trump’s policies, impact of climate change and accelerated technological development that would soon make renewables cost competitive, this forecast appears reasonable.


If so many signs indicate that the desired oil price improvement is unlikely, why JPMorgan is so optimistic? I assume that it might be explained by the bank’s exposure to the oil and gas debt.

In January 2016, JPMorgan did something it hasn’t done in 22 quarter: its net loan loss reserve increased as a result of a jump in energy loss reserves. On the earnings call, Jamie Dimon said that while he is not worried about big oil companies, his bank has started to increase provisions against smaller energy firms.

JPM reserve release_1_0

In early 2016, CNBC explained how much have the big banks funded in outstanding debt to the oil & gas sector. 


Bank of America leads the list with $21.3 billion. Citigroup is next at $20.5 billion. Wells Fargo is third at $17 billion. JP Morgan Chase is at $13.8 billion. Morgan Stanley is at $4.8 billion, PNC Bank has $2.6 billion and US Bancorp is at $3.1 billion.

How much is that, as a percentage of the bank’s total loans?

Morgan Stanley leads the way at 5%, followed by Citi at 3.3%, Bank of America at 2.4%, Wells Fargo at 1.9%, JP Morgan Chase at 1.6%, PNC at 1.3%, and US Bancorp at 1.2%.

Which banks have stowed away the most reserves relative to their oil exposure?


Bloomberg indicates that $123 billion is a remarkable amount, bigger than the annual economic output of Ecuador. What’s even more remarkable, however, is that these banks, from JPMorgan Chase to Citigroup to Wells Fargo, have disclosed enough information for analysts to piece together these estimates. Their European peers have not, and they’ve been punished by stock traders for their opacity. 

U.S. banks, on the other hand, under significant pressure, have disclosed an increasing amount of energy-specific information, albeit not uniform or complete.

The results are informative. At Wells Fargo, for example, most outstanding oil and gas loans are to noninvestment-grade companies, CFO John Shrewsberry said this month at a conference. Other banks also have significant junk-rated energy exposure, such as Goldman Sachs, JPMorgan and Morgan Stanley. 

JPMorgan said on Tuesday that it would need to increase reserves for bad loans in the energy sector by $1.5 billion if oil prices hold at about $25 a barrel over 18 months.


The exposure at the top 20 banks “is manageable even in the most unthinkable scenario,” RBC financials equity analysts wrote in a note this month.

Bloomberg highlights that perhaps the numbers don’t fully reflect the risk, or, in some cases, substantially overstate it. But at least it’s a crucial start. The more banks come clean about their potential oil-related losses, the more confidence investors will have that this won’t be a repeat of 2008 for the U.S. financial system.


If the above is just my guess. However, if it is indeed the reason why JPMorgan issued optimistic outlook, then it is not clear how the legal system actually works in the United States? 

If I would have an access to the information which is not public domain, and use it to purchase or sale shares, It would mean that I committed a crime. How is this different from a decision to publish the outlook highlighting unreasonable optimism? I don’t see the difference as it in both cases, the actions were intentionally misleading of the investors. The purpose for such actions would also be identical – the material gain. 

Quincy Krosby, market strategist at Prudential Financial said to CNBC that “If you look at the data in the first quarter, it’s suggestive of a slowing down in the economy. There’s a fear that we’re losing momentum.”

The question is, however, what “momentum” he actually meant? I would think it is impossible to know how to define the “momentum” when the economy is no longer driven by the logic based fundamentals. Instead, it is moved by the optimism which is not connected to reality.



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