the black owl report intelligence brief · 2017-09-08 · the black owl report: an executive...

The Black Owl Report: An Executive Intelligence Brief

Confidential – Armada Executive Intelligence Brief – Confidential - 1 -

Briefing: Friday 8, September 2017

The Big Impact from Rising Fuel Prices When you look at the movement of retail fuel prices over the past month, it may not seem like such a huge jump in prices. The AAA publishes a weekly fuel price guide at right and it shows us comparisons by type of fuel and across several time frames. Regular gasoline is up 16 cents over prices just a week ago, 32 cents higher than they were at this time last month, and up nearly 50 cents over rates at this time last year. For the average vehicle (about a 15-gallon tank), consumers will notice a $7.50 hike in the cost to refuel their entire tank year-over-year. Over the last month, the difference would be just $2.40 higher to refuel an entire tank. That may not seem like much, but it’s the sentiment impact that we must worry about. As we have mentioned many times, the gasoline price signs are some of the biggest influencers of sentiment in the market. It’s a rolling reminder of what prices are generally doing, and we tend to take increases in gas prices and apply it to all spending…at least mentally. If gas prices are higher, then all prices must be higher. That’s the logic and the thinking that happens in our minds. I listened to some on-street reporting from a radio station about gas prices and the reporter was asking people if they were changing their spending habits as a result. Interestingly, all of them had noticed the change in fuel prices (noticeably higher); had taken note of how much more it took to fill up their tank; and about 75% of them said that they would alter their spending patterns to compensate for the increase in prices. The most frequent area where they said they would cut back was “eating out”. Consumers are good at saying they will slow down eating out (because it seems easy), but habits are hard to break. That’s especially true when it comes to time. Time is one of the most precious commodities and a busy family trying to run kids around to dance and sports will not consciously stick with a plan to eat out less – they don’t have time to do otherwise. So, most families will just absorb this additional cost and move on. But, there will be some noticeable cut backs in certain types of spending. It’s tough to know this time around where it will hit, but there always seems to be a cut-back somewhere when we see fuel prices increase by 5% or more. This time around, it might be tough to see in the data where the cutback in spending is, Hurricanes Harvey and Irma will make a lot of comparisons really difficult. Fuel prices have been low since the fall of 2014, largely because of the rise in the dollar, drop in crude oil prices, and changes in consumer spending. So, we haven’t dealt with a high-fuel price environment in nearly 3 years. Many of us have forgotten what happens. Keep an eye on fuel prices in the interim. The mass movement of fuel to Florida will further deplete resources and push gasoline prices higher. - Keith

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• Dollar Continues to Fall. The US dollar index was continuing its downward trend on Friday. The

actual dollar index value is unimportant, the trend is very important. If you look at the chart from Bloomberg at right, you can see that we have now revisited levels not seen since the Fall of 2014.

Some of the big impacts are obvious. First, when the Federal Reserve increases interest rates, it pushes the dollar higher. Given that the dollar was previously at a high mark that was only preceded in the early 2000’s, the Fed may have felt that they didn’t have a lot of room to maneuver. This actually gives the Fed some breathing room. An increase in interest rates wouldn’t push the dollar high enough to do any economic damage that isn’t already being done. Second, a weaker dollar buys less abroad. It will make products that we import more expensive. That could help US manufacturing, but it will probably push inflation higher and consumer prices will rise as product costs go up. Third, I still believe that there is a strong relationship between WTI (crude oil) and the dollar index. The chart at right shows the relationship going back to the late 90’s. Generally, when the dollar index moves, WTI moves. Of late, there has been less direct relationship. Harvey cut off many refineries and shut down production (some of which is still slow in coming back online). That reduces demand for WTI and has resulted in the price for WTI coming down (regardless of what happens to the dollar). If Harvey had not happened, we would expect to see WTI trading today above $50 a barrel. Even with Harvey’s impact, WTI is still hovering at about $49 a barrel. Don’t underestimate how much of an impact this falling dollar is having on business conditions. It will change a lot of factors including domestic manufacturing, foreign trade, inventory carrying strategies, etc. - Keith

• Harvey and Irma to Create Demand for 1 M Vehicles? I know we touched on this a week ago

in the wake of hurricane Harvey, but the two hurricanes hitting the US will create an interesting change in the automotive market.

Domestic Economic Issues



The combined destruction between Harvey and Irma are expected to create the need to replace at least 1 million vehicles. If we assume that many of the islands in the Caribbean are also going to be sourcing a portion of their vehicles from the US, that demand figure will go up. The automotive sector has been seeing some softening of demand in 2017, a trend that started in December of last year and one which continues. There isn’t anything significant to point to that explains what has happened. We know that automotive sales have been on a strong run over the past three years, it was probably due for some cooling off. And, we also know that some items like housing, insurance, and education have gone up in price – which changes disposable income for use on items like vehicles. In addition, views of vehicles and transportation are changing, which have also slowed some sales. People of all generations are spending more on cell phones and connectivity – being connected to high-speed internet with unlimited data usage has become one of the most important monthly expenditures and it is not uncommon for the average household to have $250-$400 a month tied up in cable/internet/mobile technologies. And, with broader acceptance of ride-sharing technologies like Uber and public transit systems, people are just not as inclined to jump into a hefty auto loan. That being said, we are still selling 16 million+ vehicles a year on average, a range of auto sales that rivals pre-recession levels. I guess our point is that sales volumes are good…but could be even better if societal trends were different. The impact of these hurricanes will hit the used car market hard – many consumers that will be impacted by these hurricanes won’t be able to replace their current vehicles with a new one. Used car prices are expected to go up significantly and shortages of quality used cars could be difficult to find for a while. Shipments of vehicles from areas of the country where there are plentiful supplies to areas in short supply could be a trend that creates tight used car markets around the country. Secondly, if we do see a strong new car sales surge, watch for people to jump out and take a chance on some of the newest technologies available. Some may move from gas-guzzling models to those that are more efficient. That would especially be true if gasoline prices stay higher through this recovery period. - KP

• Interesting Developments:

o Amazon Looking for HQ2? Amazon is looking to land on a second headquarters site in the United States. Here’s the kicker: it’ll cost about $5 billion to build and employ about 50,000 workers. Imagine what this single decision will mean for the lucky metro area chosen? Using just a conservative 1.5:1 multiplier effect for hiring, the local economy will likely see between 75,000 and 100,000 new jobs created by this single move. It’ll be expensive, the local municipality will probably have to give away a lot, but the long term benefits it will bring is probably going to be worth it. Estimates suggest that its current headquarters in Seattle has brought about $38 billion in economic benefits.



o Oregon Testing Mileage Tax – Instead of Gas Tax. This isn’t new, but Oregon is going to take volunteers to pay a mileage tax instead of the traditional gas tax. The benefits to Oregon are that the people using highways and streets will be the ones paying the most for them. And, as vehicles become more fuel efficient (or pure electrics), those paying gas taxes alone continue to pay less – despite creating the same (or similar) wear and tear on road infrastructure. California tested a similar program and about 85% of the participants in the study were happy with the test, and 75% found that they actually paid less by paying by the mile. This will be something hard for many consumers to stomach as they get used to a new method of paying taxes. Over time, all states that rely on gas taxes will face similar problems in getting road infrastructure funds – if they don’t do something creative to generate new revenues like the mileage tax. The implications on housing, commuting, etc. are huge – and probably best served for a longer article at another time.

• Nice Big Jump in Worker Productivity – The second quarter data keeps providing good and somewhat unexpected news. First we learned that overall GDP growth was far better than originally thought and now we learn that worker productivity has seen a similar leap. It was originally thought to be just 0.1% and now the data shows that it increased by 1.5%. This is certainly good news but it doesn’t alter the fact that productivity has been sluggish throughout the entire recovery. The reasons for this slow rebound vary according to who one listens to. Is there not enough investment in technology? Are skilled people in short supply? Is there too little innovation and experimentation? Is there not enough access to capital? These have all been factors. The productivity factors have been baffling for some time. The US remains ahead of many nations but once upon a time the US held a commanding position. Compared to other OECD states the US is at about the same level as France and Germany and is behind Luxembourg, Norway, Ireland, Belgium and the Netherlands. Levels are far lower than they were prior to the recession. This has been confusing for a variety of reasons. Generally speaking productivity improves during a period when unemployment rates are high as fewer people are trying to do the work that was being done before with a larger staff. Now that jobless rates are way down there is less chance that overburdened staff will contribute to improved productivity. The fact that wages haven’t gone up with the lower jobless rate suggests that new hires are not being paid all that much – they are likely not skilled enough to command high pay. The slow adoption of new technology may be related to the consistently low readings as far as capacity utilization is concerned. When that rate is below 80% there is slack in the economy and there is less justification for adding people or engaging in capital investment. It is not until there is too much capacity usage that one gets shortages and bottlenecks and the justification for more investment. The biggest question and the hardest to answer is that regarding innovation. Most big jumps in productivity revolve around that innovation and there has not been the “big” thing that changes everything – at least not the kind of impact that came from computers or cell phones or even ubiquitous robots. -Chris

• More Confusion as to Who Will Head the Fed – For a while there was an assumption that Gary Cohn would be the next Fed chief. That now seems less likely as Trump seems to have turned on Cohn after the critique of Trump’s statements on the violence in Charlottesville. Many think that Cohn will leave the Trump administration sooner than later. Suddenly Yellen stands a better chance of renomination and Trump has been more complimentary than he had been. The whole issue of who leads the Fed has sharpened as Stanley Fischer has indicated that he will step down in October – leaving the Vice Chair position open. When he resigns there will be three vacancies to fill. Various names are being floated – from former Fed governors to current regional Fed officials and academics.



The more radical candidates seem to have dropped out of consideration as Trump is paying close attention to what Wall Street is interested in from the Federal Reserve. There will soon be three vacancies at the Fed and it has been a very long time since this has been the case. If one assumes that Yellen is going to be replaced that would make four. This is certainly not an ideal time for the Board of Governors to be so short-staffed. The suggestions as to what to do range tremendously as there are radically different interpretations as to what the Fed should be doing. The Rand Paul brigade wants to kill the central bank altogether and would suggest members whose interest would be to dismantle it. There are those who want the Fed to be clearly subservient to Congress and fully politicized. That has been suggested by Trump on occasion. There are those who want a hawkish policy with higher rates and those who want the dovish approach. Trump has been on both sides of that issue – often in the same speech. The names that been floated are from all over the spectrum with emphasis changing weekly. It seems that Wall Street is expressing itself more clearly than ever with its preference for low interest rates (relatively) and overall desire for stability. It is likely that many will miss Stan Fischer far more than Yellen should she leave. The traditional Fed appointee is usually from one of three categories – a banker or somebody with central bank experience, an economist with an emphasis on monetary policy or somebody with a regulatory background and that is especially the case now since Daniel Tarullo retired. Those who seek a balanced Fed have urged the appointment of somebody with a small bank background as well. The latest list that comes from Trump have people in these categories and the ones that had been favorites of Steve Bannon have dropped out. -Chris

• Beige Book Data Remains Encouraging – The latest edition of the Fed’s Beige Book is generally upbeat but with some caveats. The consensus view from the twelve regional banks is that there has been growth and in some regions better growth than average. This is consistent with the data that has been coming from the PMI, CMI, industrial production and the like. The reports from this edition do not contain much reaction to Harvey and certainly not to Irma and that will show up in future reports. The only piece of bad news is that job growth has lagged in all of the regions. This is no shock but the lag is not concentrated in one region or industry and that is significant as far as policy response is concerned. This collection is basically anecdotal and makes no claim to providing definitive data – it is a snapshot of what is happening in the regional economies and as one would expect there is considerable variability. The overall impression from the twelve regions is that growth has continued at a modest pace and there has been improvement in the labor market without much of an inflation push. Consumers are generally in a better mood than they were in last year but have started to worry more than they did at the start of the year. It has become obvious that all the grand changes promised at the start are unlikely to take place and that feeds a certain level of disillusionment. The report outlines three concerns that seem to be shared throughout the twelve regions. The first is consumer spending has improved but this is taking place despite the generally low wages that have been dominant for the last several years. This means that consumers are going into debt at a more rapid clip than before. The second concern is that fewer and fewer people are in the labor force, percentages have not changed in the last few years despite the low rates of unemployment. Much of this can be explained by the retirement of the Boomer generation but the dramatic decline in the number of males is a concern. There have been many assertions – from the impact of the opioid epidemic to the large number of young men that seem to be content living in their parent’s basement playing video games. The third concern is that business in the US will start to migrate out of the country again – just to be able to find a workforce. This is not seeking cheap labor, it is seeking any kind of appropriate labor and skill. The US may actually start losing business to Europe and other developed states because of the broader labor pool. -Chris



• Chinese Economic GDP Forecast Falling. Wells Fargo put out their latest forecast for 2017 – 2020 Chinese GDP, and it isn’t a pretty story. Chinese GDP is expected to dip below 6% over the next three years. Some will argue that this isn’t a viable concern, that as a high-growth entity (whether a country, company, or service/product line) matures, that it’s growth rate can’t be sustained at such a high level. It’s mathematics. As e-commerce approaches full saturation, it’s growth rate will fall over time – it won’t continue to grow at 10-12% annually forever. That’s the concept that they argue. The concern here is that many financial systems in China have been set based on a specific growth rate (contribution) from overall economic activity. Employment is a big factor tied directly to GDP growth (GDP is actually the measurement for underlying activities that spur hiring). In order for China to maintain a suitable unemployment rate, they need a faster rate of economic growth. As the Chinese Government goes through the process of managing an economy that will transition from a producer nation to a consumer nation, and one that goes from a third-world emerging economy to a full market economy (with higher wages and higher standard of living expectations), the transition becomes difficult. Part of the transition requires tightening (reducing Government spending and controls) which slows the overall economy.

• Poland Threatens EU Deal with Canada – When the agreement between the EU and Canada was developed it was thought to be one of the easiest trade agreements to put together. Canada sells the commodities that Europe needs and Europe sells the materials and machines that Canada wants. Now this easy deal is fraying as Poland objects to the proposed mechanism for settling trade disputes. The panel is supposed to consist of five EU judges, five from Canada and five independents but Poland still asserts that it will be biased and will interfere with Polish sovereignty. -Chris

• Saudi Reform Effort Under Revision – When Crown Prince Mohammed bin Salman launched his ambitious reform plan there were many critics and they have only become more insistent that too much is being asked too fast. He wanted to start a massive effort to shift the Kingdom from dependence on oil and to modernize but this means social reform along with economic change and that is proving too much for many in the royal family. His power is significant but he is not without rivals. –Chris

Global Economic Issues

Geopolitical Risk Assessment



• Why Would South Korean’s Protest THAAD Missile Defense Deployment? We watched

with curiosity as riots and protests erupted in South Korea as US military support teams worked to deploy up to 4 new THAAD anti-missile batteries. The THAAD missile defense systems are some of the most advanced, each can carry several dozen missiles that can be deployed against aerial attacks. Given the activities of North Korea lately, one would think that citizens in the area would be thankful for the extra layer of support. But, clearly they aren’t. We wondered why? It turns out that there were rumors that the THAAD missile battery system caused health problems. The South Korean Government was late, but accurate to point out that multiple THAAD systems had been deployed around the world without any health problems with local citizens. The real story is this: they are afraid that North Korea will target areas where the THAADs are set up. They fear that this will make the surrounding communities an initial target for a North Korean attack – and they don’t want the “target” on their community. Don’t look at protests on the nightly news and take it face value – there’s part misinformation leading to the protests…and part fear that it will make them target number one.

• Wow, Seismic Graph on North Korea Explosion Fascinating. That might not be the best choice of words, but this one bit of data and insight on the North Korean nuclear test is interesting. The CTBTO Preparatory Commission put out a graph showing the successive nuclear tests conducted since 2006. As you can see, the impact of this last test was orders of magnitude larger than previous tests, which is why many analysts moved immediately to conclude that this was likely an H-Bomb test – a whole new threshold for North Korean nuclear capability. They can be much smaller, and deliver a bigger impact.



Lastly, I’ll leave you with a graphic that we ran about a year ago that compared the bomb dropped on Hiroshima to the H-Bomb tested by Russia (the Tsar Bomba) – to give you an idea of the difference in size and power of Hydrogen Bombs.

• Merkel Likely to Rule with Coalition - Not that the AfD (Alternative for Germany) will be part of

that coalition. Angela Merkel is on her way to a fourth term as Chancellor as her main opposition has faded and she has made it abundantly clear she will not form a government with the AfD involved and she has also rejected the far left as partner. This likely means cobbling together a government that unites with the Free Democrats and the Social Democrats and that means trying to govern with parties that fundamentally disagree with her positions on several issues. The party that is peeling away some of her one-time supporters is the AfD. This right-wing populist group was a tiny band of Euroskeptics and cranks for many years but Merkel’s decision to allow over 1 million refugees from North Africa and the Middle East gave the AfD an issue that some Germans could rally around. The sudden arrival of millions of refugees and immigrants overwhelmed the country – it was close to six times the number expected. The AfD is overtly racist and calls for those who have arrived already to be deported and they demand an end to the program. The rural Germans are the most supportive and these are the communities that have the least contact with the new arrivals as the majority have been settled in and around urban areas where the needed services can be provided. That means that rumors can circulate in the rural areas without contradiction. The AfD still has minimal support but they will win more seats than in the past. They will be able to play the spoiler role and force Merkel to build that coalition – making it harder to develop coherent policy on a host of issues. The populist wave in Europe has been blunted by the defeats in France and the Netherlands but the movement is far from powerless. The immigrant issue remains very hot and controversial and people’s fears are easily stirred up. -Chris



• Trucking Costs Surge in Texas/ Southeast Next. As one might expect, Hurricane Harvey is being blamed for trucking rates surging 66% between Dallas and Houston (according to DAT). Incredibly tight capacity is pushing prices higher – especially in bidding situations. DAT publishes a Trendlines report that covers the US truckload spot market. What we see in the report is a 100% increase in the number of loads looking for trucks in the spot market year-over-year. Capacity was down by 1% year-over-year in August. The combination of the two components above created an 89% increase in the number of loads looking for trucks nationwide in August year-over-year. As a result of this “tight market condition”, spot prices for dry vans were up 11% year-over-year. Flatbed trucks are in the highest demand nationwide with a 170% increase in the number of loads looking for trucks – pushing rates up 15% on the spot market. Fuel prices are up about 10% year-over-year. Watch your supply chain costs, many truckload and rail assets are going to be chasing higher margin freight. That means that even if you aren’t directly impacted by one of the hurricanes hitting the US, you might see reciprocal price increases for freight shipping, certain commodities, etc.

• Massive Earthquake Slams Southern Mexico. An 8.1 earthquake slammed southern Mexico

just off the state of Chiapas, near Guatemala. We don’t believe that there will be a major disruption in supply chain activity (Chiapas is a fairly poor state and most major manufacturing is well north of this region), but reports are still coming in of significant damage in some areas.

Supply Chain – Business Threats and Opportunities

Environment – Business Threats and Opportunities

Get ready, even if you aren’t directly

impacted by one of the hurricanes,

your transportation and supply chain

costs are likely going up.



This is still a developing story, but one of the big impacts might be the risk to one of the biggest fuel refineries in Mexico, Salina Cruz. Operations there were temporarily suspended while checks on infrastructure were made. At the time of printing today’s briefing, we didn’t have news on whether the refinery sustained damage, or would resume normal operation.

• Watching Jose. Irma is all over the news, and it won’t even be a US story for another three days. But, we will let the major media outlets covering it 24/7 bring you the breaking news. We wanted to see what was going to happen to Hurricane Jose, Irma’s little brother. Jose is a smaller storm in both size and strength. It’s following Irma by about four days and should be approaching Puerto Rico by Saturday. At this point in time, the most advanced weather models have it missing Puerto Rico to the north (some outer bands may have a mild impact on PR). On its initial pass, Jose is expected to hit some small islands that were already impacted by Irma. Jose is currently packing winds of about 100 mph. But, Jose is expected to make a hard-right turn and circle just off the Coast of Puerto Rico for several days. What forecasters and models can’t show at this point is whether it then regains forward momentum and makes a hard push toward Puerto Rico, or stalls in the Central Atlantic. We will continue to watch Jose, knowing that it would be a tough situation if some of the areas impacted by Irma were to get hit by another storm just a week or so after Irma’s landfall across the region. Note in the Weather Underground map above that Irma is expected to go ashore in Florida by Saturday morning (the map is for Saturday night at about 11:00 pm Eastern Time) – the eyewall of Irma will just be making landfall at that time.

the black owl report intelligence brief · 2017-09-08 · the black owl report: an executive...

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