Oil Surges To $110 A Barrel As Congress Prepares To Hear From Fed Chair

 | Mar 02, 2022 10:04AM ET

Last night, President Joe Biden offered his state of the union address; today investors will hear from Federal Reserve Chairman Jerome Powell, who is scheduled to testify before Congress.

This morning the ADP Nonfarm Employment report showed more jobs than expected were added in February, and the January number was revised higher as well. Most jobs were added by medium and large companies, while small companies were net negative. Leisure and hospitality were the top hiring companies once again.

Crude oil futures were trading near $109, or about 5.4% higher, as many oil buyers are shunning Russian oil. Even if purchasers want Russian oil, shipping is being disrupted because of the difficulty in getting tankers into Russia. Overnight, oil prices tested $110 a barrel, which is actually a long-term resistance level going back to 2014. If resistance holds for oil and support holds for the S&P 500, stocks could start to be build a bit of base.

Wednesday is an eventful day in the markets, with a number of new developments signalling potential changes in market sentiment. Investors may be getting less concerned about inflation and more concerned about economic slowdown as companies deal with uncertainty around Russia continuing to push into Ukraine. While President Vladimir Putin tried to learn from the sanctions slapped on Russia after invading Crimea in 2014, apparently there were holes in his plan to “sanction proof” the Russian economy. Let’s break down what the markets are doing and potential reasons why.

h2 Currencies/h2

One thing Putin attempted to do was protect the Russia’s trade and currency by divesting away from the U.S. dollar and stockpiling other country currencies. However, the sanctions, particularly those around SWIFT (Society for Worldwide Interbank Financial Telecommunications), which helps facilitate payments in other countries, are blocking Russia from its ability to trade and raise capital. Additionally, many Russian assets have been frozen by western allies.

Russian and Ukrainian citizens are attempting to protect their personal funds by changing in their rubles for other currencies, which may be behind the recent surge in Bitcoin. The Russian ruble has lost a tremendous battle against the dollar, and now the ruble is worth less than one U.S. cent. With many of its other assets frozen, the Russian government may be finding it difficult to function.

h2 Commodities/h2

As previously noted, Russia is the 11th largest economy in the world behind countries like South Korean and Italy. However, it’s a big player when it comes to commodities because it’s the third-largest producer of oil and among the top in other commodities. While western allies tried not to disrupt Russia’s important commodities, the financial sanctions have created an unintended consequence of making it harder to get them. This is causing some commodities to rally.

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WTI crude futures rose $9 or about 9.4%, pushing the American benchmark crude near $105 per barrel. Brent crude futures also shot up over $105, or 8.21%. However, this isn’t just because of the payment systems. English oil producers Shell (LON:RDSa) (NYSE:SHEL) and BP (NYSE:BP) have decided they would no longer do business in Russia because of the invasion. Shell and BP were joined by Exxon (NYSE:XOM) on Wednesday morning when Exxon announced it will stop projects in Russia, too.

Other petroleum products also rose on the news, including RBOB gasoline futures, which shot up 6.38% on Tuesday. These gasoline futures have risen 60% from their December low. Additionally, natural gas futures rose more than 4%, while heating oil futures gained 8.72%. Rising oil prices booted the energy sector, which was the only one to finish the trading session in the green.

With that said, there’s some hope for consumers worried about rising gas prices. The oil markets are signalling that the rise may be temporary. Oil futures are experiencing a phenomenon called backwardation, which means the current month futures contracts are higher than later months. This suggests that the commodity market doesn’t expect these prices to last past a month or two.

Outside of petrol, {{8917|wheat futures}} are at their highest levels since 2008 because Ukraine and Russia are large wheat exporters. Even though no one was looking to sanction Ukraine wheat, the Russia invasion is blocking supply chains. Wheat futures rallied 5.35% on Tuesday, adding to its six-day, 24% rise.

Finally, many investors are moving into precious metals as a safe haven. Gold futures rallied 2.44% on Tuesday, while silver futures rallied 4.84%. Even copper futures, which are usually seen more as an indication of economic strength than a safe haven, rallied 2.56%. The Gold & Silver Index saw precious metal companies rise an aggregated 4.59%.

h2 Bonds/h2

Speaking of safe havens, investors flocked into U.S. Treasury bonds, particularly in longer-term maturities like the 20- and 30-year bonds. But it wasn’t just Treasuries; highly rated government bonds saw a lot of buying around the globe, including German bunds. The 10-year German bund fell from a yield of 0.11% to -0.091% (that’s correct, negative yields ). The U.S. Treasury 10-year yield fell from 1.839% to 1.707%.

Falling global yields complicates the inflation picture because the Federal Reserve is less likely to be aggressive against inflation while the United States and its allies are tied up in a conflict with Russia. However, inflation is still high, and rising commodity prices may not provide any relief, even if the uncertainty surrounding the Russia causes the economy to slow.

The bond markets are already lowering the probability of the number of times the Fed might raise the discount rate. Currently, the market is still pricing in hikes for March and May and almost certainly June. However, past that time frame, the probabilities are getting smaller. Unless the February Consumer Price Index comes in at a crazy high number, it’s unlikely that the Fed will raise rates half a point in March and just stick to a more conservative quarter-point raise.

On a slightly positive note, the yield curve ratio did steepen a little on Tuesday. The 2s10s spread has moved recently moved down to 0.4 from about 0.8 at the first of the year. A ratio of 0.0 is a completely flat curve, and a negative ratio is an inverted curve and often a harbinger of a recession. Investors are now wrestling with the risk of economic slowdown caused by the war and rising inflation and commodity prices.

The falling yields continue to weigh heavily on the financials sector. The Financial Select Sector Index fell 3.71% on Tuesday and is down about 9.6% from its February high. Bank stocks have been a big drag on financials. The PHLX Bank Index dropped 5.72% on the day. The problems aren’t just in the United States, the KBW Nasdaq Global Bank Index fell 4.04% on Tuesday and is down more than 10.5% in the last five days.

h2 Russian Exposure/h2

Companies that do business in Russia have been selling as investors try to assess the geopolitical risk in their portfolios. According to Barron’s, PepsiCo (NASDAQ:PEP) generates 4% of its total sales from Russia. There, it outsells competitor Coca-Cola (NYSE:KO), which only gets about 1%. PEP has fallen more than 3.5% in the last two days, whereas KO is down about 1.4%.

Pepsi isn’t the only company with Russian exposure. A list by JPMorgan Chase & Co (NYSE:JPM) included 25 companies that do a lot of business in Russia including McDonald’s (NYSE:MCD), Mohawk Industries (NYSE:MHK), Philip Morris (NYSE:PM), Arconic (ARNC), and more. Geopolitical risk is just one of many risks that can’t always be accounted for when selecting a stock.

This morning, Boeing (NYSE:BA) has joined a growing list of companies that will stop doing business in Russia. BA has suspended service and operations in Russia as a response to the country’s invasion. Delta Air Lines (NYSE:DAL) announced on Friday that it was suspending its “codeshare services” with Russian airline Aeroflot. Outside of airplanes, Disney (NYSE:DIS) announced that it will delay the release of new Russian films on its Disney+ streaming platform. FedEx (NYSE:FDX) and United Parcel Service (NYSE:UPS) have both halted shipments to Russia. The list continues to grow as the private market creates its own sanctions.