What’s going on in financial markets? The benchmark U.S. equity index, the S&P 500, is down 20% in the last month and every day it whipsaws back and forth as volatility and panic take over markets. Brent crude oil prices fell from $50 on Friday to $31 Monday morning! That’s nearly a 40% drop in the blink of an eye. Oil regained some lost ground, trading at $36 per barrel as of this article, but still far from where it was last week. What is happening, and what does it mean for you?
Let’s start with oil. In short, OPEC agreed last week to cut production to stabilize oil prices. Russia, which normally coordinates with OPEC, disagreed. In response, OPEC decided to increase production and sell futures in the commodity, bringing the price of a barrel of oil crashing down. On the surface, the move was meant to punish Russia whose costs of production are much higher than many of the OPEC countries’. Russia spends nearly $20 to extract one barrel of oil out of the ground while the OPEC countries spend less than $10. This means the drop will hurt Russia even more than it will OPEC countries. Perhaps the move was also meant to help out the U.S. and European countries who will be hit hard from the fallout from the coronavirus.
Extracting oil by fracking is even more expensive than standard oil drilling, and this practice is predominantly practiced in the U.S. Oil companies that frack will undoubtedly put pressure on President Donald Trump to ramp up aid to their industry in the wake of the OPEC move and the spreading coronavirus's impact on demand. Look for these industries to be bailed out shortly, as these energy producers are vulnerable to bankruptcies should oil prices remain under pressure in the near term, and it is an election year, after all.
The drop in oil prices will, however, benefit Turkey greatly. Importing nearly all of its energy, the Turkish industry is at the mercy of oil prices, and cheaper energy means more net income for manufacturers. The price of many food items, for example, is also dominated not by labor costs but by energy. Transporting produce from the south of Turkey to the north makes up nearly 80% of the cost of many fruits and vegetables. As these transport costs decrease, so too will the price of crops, which should help to lower inflation.
In the U.S., the Democrats continue to vote in the primaries in the run-up to their convention and choosing a nominee to challenge President Trump. After nearly sweeping the earlier primaries, Bernie Sanders ran into trouble on Super Tuesday and appears to have won only one of six states contested on Tuesday. Losses in these states mean that Sanders will have difficulties challenging former vice-president Joe Biden for the nominee. This, in turn, means that President Trump has nearly guaranteed re-election as Biden is weaker against Trump in battleground states. Short of an economic catastrophe, Trump would be difficult to beat, but what are we experiencing now if not an economic catastrophe?
We have eight months before election day in the U.S. and President Trump will pump a fiscal stimulus while the Fed will drop rates to nearly zero at their next meeting and engage in massive quantitative easing, flooding the markets with liquidity. These financial steroids shall allow the U.S. to offset the impact from the coronavirus at least until election day. After that, it’s anyone’s guess. Stay safe. Wash your hands.
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