Oil's Slippery Slope And Why You Should Care

"You know the nearer your destination

The more you're slip slidin' away"

- Simon and Garfunkel

The oil market may have just given bond investors the biggest warning they may ever have to preserve capital and get ready for a buying opportunity.  While most other market observers are watching stocks like Alphabet, Aapl and Facebook push indexes to new highs, the oil market may have just shined one of the biggest warning signals for High Yield Bond investors that a slippery slope may be just ahead.  It may be that the nearer your destination - recent all-time highs for equities - the more you’re slip slidin’ away.

This week Oil prices have continued to break down from the peak they made back in January just above $50 a barrel.  If you recall, most pundits were very negative on Oil as it hit its lows near $25 a barrel back in 2016 and many flipped back to being positive in recent months.  I have a sneaky suspicion that these flip floppers are going to wish they were predicting another market by years end. 

This week Oil is now breaking below what we considered the “tell” level of support at around $43 a barrel.  This level is important to us and should be important to any investors that own Corporate Bond or High Yield Debt funds.  As you can see by this chart, there is an uncanny correlation between Oil prices and the performance of High Yield Debt funds such as JNK portrayed in the graph.

With this recent break of the $43 level on Oil it opens the door that the bounce in Oil from $25 up to $50ish may be over and Oil is positioned to possibly retest the lows from 2016.  I should pause here to mention that anything can happen in markets and just because we are currently below the $43 level on Oil does not mean that something can’t happen in the near future to stick save prices.  However, the longer Oil sustains trade below this level the probabilities of a retest of the 2016 lows increase in this market observer’s humble opinion.

Obviously this should matter to anyone owning energy related investments.  What is less obvious is why it should matter to the investor that owns High Yield or Strategic Income Funds.  What many investors and advisors are unaware of is that a large portion of High Yield Debt is issued by energy related companies and there can be times when Oil prices decline enough to drag these investments down with them.  As a result, there is a chain reaction that ripples across the entire High Yield Debt market where even good names not related to Oil prices get sold off as mutual fund manager’s scurry to create cash so they can honor redemption requests.  This phenomenon was prevalent in late 2015 and early 2016 setting up one of the better buying opportunities in high Yield debt we had seen since the 2008-2009 melt down.

Will we see a repeat of this in 2017?  Possibly and the chances of this increases greatly the longer oil remains below our “tell” level of $43 a barrel. 

 

Colby McFadden

Quiver Financial

 

The opinions expressed are those of Colby McFadden and Quiver Financial as of June 21, 2017 and are subject to change due to market or other conditions. This is not a solicitation or recommendation of any investment; always consult a Financial Advisor before investing into any investment. Securities offered through WestPark Capital, Inc. - Member FINRA / SIPC / http://brokercheck.finra.org Advisory Services Offered through WestPark Capital, Inc. 18872 MacArthur, 1st Floor, Irvine, CA 92612 - 949.590.4200