See Spot Run

Stay in the Future

Soundbite: Follow distant energy futures contracts, not spot prices. Oil traders were jettisoned two weeks ago from a balanced environment, burdened only by a small overhang of a few million barrels of daily spare capacity. Their new world sports a gaping 15-million-barrel daily deficit. Spot WTI crude oil traded at $68 before the Iranian conflict, but its clearing price today is $95. One needs to extend very far out the futures curve, to December 2027, before discovering oil prices at the old $68 price tag. Once we see $68 prices sneak back into Q4 2026 futures pricing, order is returning to crude markets. Contrary to mindfulness teaching, don’t stay in the present, jump into the anxiety of the future for directional clues.

In times of uncertainty, market participants look for a thread of clarity. We always defer to market consensus as square one and look for opportunities from there. While the mainstream follows the spot price for crude, back-month futures—where the auction returns to stable pricing—is what really matters. As of now, it is December 2027. That fulcrum will move closer in or farther away as events unfold; use time, not price, to determine exposure management.

Global energy traders are making a bet on the duration of the current chaos. The contour of the futures term premium is pointing to 15 months from now as the time when price equilibrium will be established. That balance arrives through either:

• A negotiated truce with Iran,
•  Iranian citizens shaking off economic trauma from the sanctions, plus the devastation of war, to rise against the current regime, or
• After a vicious period of demand destruction and a global recession, an eventual recovery.

Any of those three events should cause oil to “settle down” to its pre-turmoil price. However, the precise path to equilibrium has enormous implications for asset prices.

As mentioned above, the December 2027 WTI crude futures price is $68. Moving the horizon six months earlier to June 2027, the commodity is trading just a bit higher at $70. The one-year futures price is $72. Moving closer to year-end 2026, December is four dollars higher than March 2027 at $76, and futures prices then jump by five dollars to $81 for September delivery. The July contract is $87 and June is $91. For now, the upside risks to oil prices are massive, and are expected to remain elevated through the summer.

The longer it takes for a resolution in Iran to be reached, the greater the chance the conflict spirals out of control. In that case, it is imperative that $68 oil does not get pushed farther out on the curve. Such an outcome would be negative for Treasury Bonds, as fiscal deficit fears mount and inflationary supply chain disruptions become more entrenched. That scenario would also weigh on stocks amid recession/stagflation fears.

If the regime falls, oddly, investors may still suffer. Even though terrorists no longer receive Iranian funding and more oil will flow from the region, U.S. assets remain vulnerable to the downside. We consider the paradox in the following Point. 

Risk Parity RIP: Be Careful What You Wish For

Soundbite: The home run scenario for Washington is a quick resolution in Iran, allowing for a U.S.-compliant government. That new leadership would presumably allow Western oil companies to assist Iran, with the country no longer supporting regional terrorist cells in the future. That outcome ushers in a flood of capital led by Middle Eastern Sovereign Wealth Funds that are joined by global private capital and other institutional investors. Truly a new Golden Age would take the stage, carrying the promise of lower risk premia and low oil prices that would result in yet another low-inflation economic expansion. However, global capital markets are a zero-sum game, and such an inflow of funds into the region can have negative consequences for other parts of the world, namely the United States. Treasury investors may be faced with a true lose-lose situation.

Investors thrive on inertia. We are not surprised that the long-term base case for investors remains “buy-the-dip,” thanks to their simple linear extrapolation of our decades-long stable growth environment and temperate inflation. If the economy experiences a stumble, the market anticipates a bullish cocktail of an about-face from the administration, bolstered by routine fiscal and monetary stimulus to smooth out the wrinkles. The promise of AI productivity gains and deregulation has kept investors on the deflationary growth track, but that is no longer the most likely case going forward. We contend that the pandemic-related stimulus ushered the economy into a structurally different inflationary universe. While we enjoyed a recent cyclical bout of disinflation, the risk-parity world that benefited from a mechanical 60/40 stock/bond mix is history.

The inflationary sea change is considerable. Dangerously, most expect triple-digit oil prices to be transient and inflation to soon be in the rear-view mirror. The hope is that once the dust settles, investors will enjoy a fertile stock environment once again, with complementary fixed income investments acting as a hedge whenever growth temporarily slows.

That is how we roll, no?

Unfortunately, not anymore. Stubbornly high oil prices will eventually raise inflationary expectations, causing the Fed to move to a tightening bias, a historically destructive combination for bondholders.

Potentially more problematic, however, could be the optimistic scenario of a regime change and lower-for-longer oil prices. That may seem illogical. After all, how could capital inflows promoting economic expansion in the Middle East be problematic for U.S. equity and risk-parity bulls? 

Charles Gave from the research firm Gavekal warns that toppling the Iranian theocracy recalls the fall of the Berlin Wall. When Germany reunified, all of Eastern Europe enjoyed a Foreign Direct Investment boom as it was rebuilt in the late 1980s and early 1990s. Real rates in Germany rocketed to 7% from the surge in demand for capital, and France experienced 15% unemployment as they were forced to raise real rates to keep capital from escaping their borders. Charles is concerned that Middle Eastern investors, who traditionally hold large positions in mega-cap tech stocks and U.S. Treasuries, will become willing sellers of U.S. assets as boundless investment opportunities emerge in their own region. 

To sum up:

• If the Iranian situation sours: oil rises, inflation climbs, and the deficit widens from increased military involvement. That all points to an ugly environment for Treasuries.
• If the Iranian situation improves: oil falls, inflation weakens, and the deficit widens to support a weaker economy hampered by higher interest rates. Then why would Treasury rates be higher on $40 oil? Because heavy Middle Eastern selling would force them higher, plus the need to attract alternative buyers of our paper requires more desirable yields.

Welcome to the new world, which may be radioactive for traditional 60/40 risk-parity investing. Perhaps the only way bonds flourish is if the Iranian Revolutionary Guard remains in power, but in a diminished state, and capital continues to support U.S. assets. While still a plausible outcome, valuation premiums of U.S. assets and sticky inflation from potential supply chain disruptions create a compelling case for far better alternatives overseas.

Driving in Fog: What to look for in the Fed’s March Economic Forecasts

Soundbite: The Fed has experience dealing with uncertainty. Jerome Powell spoke about “driving in the fog”, regarding the government shutdown’s impact on economic data, during his October 29 press conference. Now, economic data is flowing, but oil is not. No one knows how events in the Middle East will play out, so the Fed is burdened with a new set of unanswered questions. While they will not change policy on Wednesday after already cutting rates 175 basis points over the last 18 months, the Fed must submit updated forecasts for GDP and employment growth, inflation, and Fed funds in their March Summary of Economic Projections (SEP).

Something to watch Wednesday: if GDP forecasts are revised lower and headline PCE rises in their December projections, that would reveal the FOMC is concerned about sustained oil price increases putting upward pressure on long-term inflation expectations. Because the Fed normally views crude prices as highly cyclical, we do not expect the recent change in oil supply to impact their view of the economy nine months from now. However, if either of those two forecasts are changed, it would represent a significant obstacle to monetary policy easing.

Should there be any impact on the SEP estimates from the oil price shock, we expect to see it embedded in a higher PCE inflation forecast. Importantly, a jump in headline PCE (including food and energy) is not enough of a statement about inflation risks to warrant a rate hike if core PCE is kept unchanged. Interestingly, the Committee’s March 16, 2022 statement following Russia’s invasion—that caused a two-week energy spike, including an intra-day buying climax to $130 in WTI crude—contained this language:

“The invasion of Ukraine…in the near term…are likely to create additional upward pressure on inflation and weigh on economic activity.”

That statement confirmed the recognition of an inevitable bump in headline inflation caused by energy, but the fact that it dampens growth will not be a reason to hike rates. Secondly, Powell will need to address his January press conference comments regarding a firming job picture, considering February’s weak jobs report. Finally, he may be asked about the recent inflationary impulse of his favorite “supercore” indicator (core services prices ex-shelter), which came in at a monthly annualized rate of over 7% in January and 4% in February.  

The overall tone across the FOMC is probably reflected by recent comments from New York Fed President John Williams when he said:

“I expect…additional pass-through of tariffs into consumer prices during the first half of this year. Given the lack of second-round effects and well-anchored inflation expectations, I expect the tariffs largely to have one-off effects on prices. Therefore, I anticipate inflation to start coming back down later this year when the peak effect of tariffs on the inflation rate is behind us.” He believes the three-pronged support of fiscal policy, favorable financial conditions, and heavy AI capex will result in 2.5% real GDP growth this year, causing the “unemployment rate to edge down over the course of this year and next.”

Expectations by forecast in the upcoming SEP:

GDP: The clear shift in stronger GDP projections from September’s 2026 1.8% forecast to December’s 2.3% will be a key datapoint to watch, particularly to see if higher oil will pull forecasts that far out. Given Williams’ 2.5% forecast, the FOMC may not change much, considering a clear shift to upside risks to their estimates in December.

Fed funds: Expectations in December 2025 were for one cut this year, although all it would take to change the median forecast to two rate cuts is for two of the nineteen FOMC members to reduce their 2026 forecast. The median rate prediction will match the market consensus of no 2026 rate cuts only if three participants raise their December 2026 forecasts. The dispersion of the “dot plot” is so wide (estimates ranged from no cuts to three cuts for year-end when you eliminate the three extreme views in either direction), so an insignificant change in the distribution can shift the consensus but may not signal a wholesale shift in policy.

Unemployment: December’s 4.4% forecast was unchanged from September. Expect no change as their uncertainty around the FOMC’s forecast has been declining for a year.

Inflation: Saved the best for last. The median estimates for headline and core PCE Inflation were lower than September’s, but December’s 2.5% core is higher than the 2.4% headline. We will see whether the Committee expects oil to impact the data into year-end, in which case PCE should be higher than core PCE.

What to Look for This Week

(All times E.S.T.)

1. Wednesday March 18 at 2:00 p.m. Federal Open Market Committee statement and Summary of Economic Projections (SEP) followed by Chair Jerome Powell’s press conference at 2:30 p.m. Powell will be asked to address his January press conference remarks that the downside risks to employment have diminished. The market seems to think that the Fed will be biased toward tightening due to oil spiking, but they may be more concerned with a consumer pullback from higher energy prices. Therefore, we are focused on the SEP 2026 forecasts for GDP and Unemployment. December’s SEP revealed a large jump in GDP from 1.8% in September’s projections to 2.3% for 2026 GDP. Unemployment remained steady from September into December, anticipating a 4.4% rate for December 2026. The Fed Funds Forecast for year-end should remain at one 25 basis point cut unless two participants lower their expectations, in which case the median forecast falls to two cuts expected this year. 
2. Wednesday March 18 at 8:30 a.m. Producer Price Index for February. January core PPI rose to 3.6%, the highest since Q1 2025 and above December’s 3.3% and 3.0% consensus. The data comes out before the Fed statement and press conference, so there could be some recency bias impacting Powell’s answers to the press later that day.
3. Thursday March 19 at 8:30 a.m. Initial and Continuing Claims. We track the four-week average of Initial Claims that has still been tame, despite the weak nonfarm payrolls data. Claims are a much better leading indicator. At the same time, the Philadelphia Fed Business Conditions for March is broadcasted. We are looking at the Employment subcomponent, which had its first negative print in 9 months in February. We are keeping an eye out on Tuesday, March 17 at 8:15 a.m. for ADP weekly data that has been trending higher all year.

FOMC Voters Speaking: We are in the blackout period so no speakers before the March 17-18 meeting. The Bank of Canada’s rate decision is out Tuesday, March 17 at 9:45 a.m., followed by Governor Macklem’s press conference at 10:45 a.m. Thursday, March 19 at 8:00 a.m. the Bank of England’s rate announcement is released. They kept rates unchanged at 3.75% in February following its sixth rate cut in December. Despite a tight 5-4 vote in February, it is expected that March’s meeting also sees rates on hold. The ECB rate announcement is expected at 9:15 a.m. with no change anticipated, followed by the press conference 30 minutes afterwards. 

Night owls: Monday, March 16 at 11:30 p.m. Reserve Bank of Australia’s rate decision is announced, followed by a Tuesday 12:30 a.m. press conference, after raising rates last month, reversing one of its three 2025 rate cuts due to higher inflation pressures. No change expected. Bank of Japan’s Monetary Policy Committee is expected to announce keeping rates on hold at 75 basis points (last raised in December) at 11:00 p.m. on Wednesday, March 18.

Earnings: Final Stages of Quarterly Earnings Announcements: the headline will be on Wednesday, March 18 after market when Micron Technology Inc. (MU) reports. Before market on March 18, we will get a look at Macy’s Inc. (M) and Williams Sonoma Inc. (WSM). Both have been weak components of an underperforming Consumer Discretionary sector. Thursday, March 19 FedEx Corp. (FDX) reports after market. FDX has handily outpaced UPS and has been a strong outperformer relative to the S&P 500 since October of last year. We will look for any discussion on diesel costs and whether they are hedged in energy.

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By Peter Corey

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