2022 is starting off on the wrong foot for anyone who was expecting oil prices to come down and bring some relief to America’s inflation statistics. West Texas Intermediate crude reached $92 per barrel on February 4, reflecting a $15 rally since the start of the year.
On the other hand, you can’t blame oil’s jump on a mismatch of supply and demand. The two were essentially in balance in January. Worldwide oil use outpaced production by just 30,000 barrels per day last month, according to the U.S. Energy Information Administration’s (EIA) report this week.[1]
January’s figures close the deficit of 2.6 million barrels per day that was recorded in December. Leaving aside the possible Russian invasion of Ukraine, the supply/demand relationship will likely be a key determinant of whether U.S. crude oil prices can reach $100 per barrel in the near future.
Similar to many other parts of the economy, from cars to appliances, crude oil’s recent rally to $92/barrel was driven by a problem on the supply side. Oil output had not been bouncing back fast enough to meet rising demand as more countries lifted pandemic economic restrictions.
But January’s EIA data may begin to flip the narrative. The EIA is forecasting that from March onward, production will be larger than demand, which will slowly rebuild depleted inventories. And as inventories rise, that opens the door to a stabilization in crude prices, which could have a positive knock-on effect on inflation.
Energy is an important component in the Consumer Price Index (CPI), the inflation report that everyone has their eyes on. Energy’s weight in the CPI is currently about 7%. Combine energy with housing (which we wrote about in last week’s Big Number: Disappearing Foreclosures), and together those two items account for about 40% of CPI. We need to keep a close eye on both of them to see if the pace of inflation does retreat this year as predicted by many economists (see our Q4 Focus for details).
From our point of view, the expected return to balance in the oil market exemplifies why we believe that there’s little reason for goals-based investors to worry that the current spurt of inflation could scramble their long-term financial objectives. Historically, high oil prices drew more barrels onto the global market. As supplies grew, oil prices tended to respond by stabilizing or tumbling.
Expectations that the oil market will remain in balance means that there’s still a reasonable probability that the energy inflation we’re now seeing ends up being a blip over the long-term.
Different Recommendations for Different Stages
The design of the goals-based framework is that it is able to flex and adapt as either the macro situation or a client’s personal situation changes due to the impact of inflation – or other factors – in their stage of the investor journey.
For GAIN stage investors, time is on your side when it comes to inflation. An appropriate asset allocation based on your risk tolerance can allow you to weather short-term volatility in pursuit of your long-term accumulation goals.
For PROTECT stage investors, the shorter time horizon to your goal requires heightened sensitivity to market pullbacks and inflation. A well-formulated plan that consists of multiple risk mitigation strategies may help take some of the emotion out of your short-term portfolio performance and can help lead to better outcomes.
And for SPEND stage investors, today’s high inflation and low bond yields are a difficult investment backdrop. A systematic total-return strategy, tilted toward equity markets and equipped with a dynamic, risk-management process, may help meet your spending needs in the years to come.
Further reading:
Q4 Focus Magazine: The Good, The Bad and The Ugly of Inflation
2022 Outlook: The Next Unprecedented Year
Disappearing Foreclosures Add to Housing Inflation Pressures
Is Inflation Pressure Easing? Factory Input Costs Tumble Again
If Inflation Returns, Bond’s Diversification Power May Disappear
Essentially Nothing. That’s How Much Bonds May Return Over Next Five Years
It’s Getting Harder to Fund Retirement Using Bonds
The Biggest Retirement Fear: Outliving My Money
Many GenXers Agree: It’ll Take a Miracle to Have a Secure Retirement
This commentary is written by Horizon Investments’ asset management team. For additional commentary and media interviews, contact Chief Investment Officer Scott Ladner at 704-919-3602 or sladner@horizoninvestments.com.
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