Using Veritas to Construct the "Per…

29-04-2017 Hits:82075 BoomBustBlog Reggie Middleton

Using Veritas to Construct the "Perfect" Digital Investment Portfolio" & How to Value "Hard to Value" tokens, Pt 1

The golden grail of investing is to find that investable asset that provides the greatest reward with the least risk. Alas, despite how commonsensical that precept seems to be, many...

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The Veritas 2017 Token Offering Summary …

15-04-2017 Hits:77714 BoomBustBlog Reggie Middleton

The Veritas 2017 Token Offering Summary Available For Download and Sharing

The Veritas Offering Summary is now available for download, which packs all the information about Veritas in a single page. A step by step guide to purchasing Veritas can be downloaded here.

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What Happens When the Fund Fee Fight Hit…

10-04-2017 Hits:77284 BoomBustBlog Reggie Middleton

What Happens When the Fund Fee Fight Hits the Blockchain

A hedge fund recently made news by securitizing its LP units as Ethereum-based tokens and selling them as tradeable (thereby liquid) assets. This brings technology to the VC industry that...

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Veritaseum: The ICO That's Ushering in t…

07-04-2017 Hits:82030 BoomBustBlog Reggie Middleton

Veritaseum: The ICO That's Ushering in the Era of P2P Capital Markets

Veritaseum is in the process of building peer-to-peer capital markets that enable financial and value market participants to deal directly with each other on a counterparty risk-free basis in lieu...

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This Is Ground Zero for the 2017 Veritas…

03-04-2017 Hits:78621 BoomBustBlog Reggie Middleton

This Is Ground Zero for the 2017 Veritas Offering. Are You Ready to Get Your Key to the P2P Capital Markets?

This is the link to the Veritas Crowdsale landing page. Here is where you will be able to buy the Veritas ICO when it is launched in mid-April. Below, please...

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What is the Value Proposition For Verita…

01-04-2017 Hits:80917 BoomBustBlog Reggie Middleton

What is the Value Proposition For Veritas, Veritaseum's Software Token?

 A YouTube commenter asked a very good question that we will like to take some time to answer. The question was, verbatim: I've watched your video and gone through the slides. The exchange...

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This Real Estate Bubble, Like Some Relat…

28-03-2017 Hits:47800 BoomBustBlog Reggie Middleton

This Real Estate Bubble, Like Some Relationships, Is Complicated...

CNBC reports US home prices rise 5.9 percent to 31-month high in January according to S&P CoreLogic Case-Shiller. This puts the 20 city index close to an all time high, including...

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Bloomberg Chimes In With My Warnings As …

28-03-2017 Hits:79622 BoomBustBlog Reggie Middleton

Bloomberg Chimes In With My Warnings As Landlords Offer First Time Ever Concessions to Retail Renters

Over the last quarter I've been warning about the significant weakness in retailers and the retail real estate that most occupy (links supplied below). Now, Bloomberg reports: Manhattan Landlords Are Offering...

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Our Apple Analysis This Week - This Comp…

27-03-2017 Hits:79149 BoomBustBlog Reggie Middleton

Our Apple Analysis This Week - This Company Is Not What Most Think It IS

We will releasing our Apple forensic analysis and valuation this week for subscribers (click here to subscribe - lowest tier is the same as a Netflix subscription). As can be...

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The Country's First Newly Elected Lame D…

27-03-2017 Hits:79699 BoomBustBlog Reggie Middleton

The Country's First Newly Elected Lame Duck President Will Cause Massive Reversal Of Speculative Gains

Note: Subscribers should reference  the paywall material here for stocks that should give a good risk/reward scenario for bearish trades. The Trump administration's legislative outlook is effectively a political desert, with...

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Sears Finally Throws In The Towel Exactl…

22-03-2017 Hits:84665 BoomBustBlog Reggie Middleton

Sears Finally Throws In The Towel Exactly When I Predicted "has ‘substantial doubt’ about its future"

My prediction of Sears collapsing once interest rates started ticking upwards was absolutely on point.

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The Transformation of Television in Amer…

21-03-2017 Hits:81621 BoomBustBlog Reggie Middleton

The Transformation of Television in America and Worldwide

TV has changed more in the past 10 years than it has since it's inception nearly 100 years ago This change is profound, and the primary benefactors look and act...

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I thought this piece would be timely since the media has been hinting that that the $17 drop in oil is responsible for a fundamental rally in stocks. I'd like to remind my readers that I looked into going long oil in the middle of last year - at $65! We are currently just above $130. Let's see what 100%+ increases in energy costs have caused in the past.

Energy prices and growth – historical perspective

The global economy has experienced two oil shocks in the last three decades. The first shock was when oil prices rose from US$4.15 per barrel in 1973 to US$9.07 per barrel in 1974, and the second one occurred when prices surged from US$12.46 per barrel in 1979 to US$35.24 per barrel in 1981. During both these oil shocks, the global economy was severely impacted. In 1974, real GDP growth rate was 0.3% in OECD countries, while in the U.S., Japan, and the U.K., real GDP declined 2.2%, 3.3%, and 0.5%, respectively. In 1980, OECD nations grew 1.0% and Japan rose 5.4% in terms of real GDP, while the U.S. and U.K. fell 0.8% and 3.0%, respectively. Inflation skyrocketed during these times; for instance, U.S. inflation peaked at 13.5% in 1980, averaging 10.3% in 1979–82. The U.S. economy recovered completely only in 1984, 10 years after the shock. The chart below indicates the impact of oil prices on real GDP growth. It can be seen that whenever oil prices reached a new high, real GDP growth has been very low or even negative.

 

 Oil Prices vs. U.S. Real GDP Growth

image001.gif

 

In addition, an increase in oil prices was accompanied by higher food prices, making matter worse for the economy. Oil demand in developed countries was more than that in developing countries in the 1970s. Hence, developed nations were relatively more affected by the oil shocks as their fuel bills and consequently inflation increased. The policy responses to tackle inflation arising out of high oil prices were to hike interest rates. In the U.S., the federal funds rate was raised to 19.1% in 1981 to tackle inflation, which resulted in the U.S. economy slipping into recession.

 

The 1973 and 1979 oil crises shared three key characteristics. First, disruption in oil supplies occurred at a time when the global economy was expanding at a significant rate. The rapid economic growth stimulated greater use of petroleum products. Second, both disruptions occurred when the world’s crude oil capacity was being stretched to the limit with almost all OPEC nations using more than 92% of their capacity. Third, each crisis took place at a time when investment in oil and gas exploration had tapered, making it difficult to scale up non-OECD supplies. Gradually, the global economy recovered with the demand side contracting due to higher oil prices and supply side regaining strength due to investments made by energy suppliers.

Impact of high oil prices on current economy

The world has evolved since the last oil crisis with a major role played by developing economies, especially BRIC (Brazil, Russia, India, and China) nations. BRIC nations’ consumption of oil products surged in the last decade. To sustain strong GDP growth, oil consumption in developing economies is rising, driving oil prices higher. Current oil prices reached US$146 per barrel from US$75.53 per barrel in June 2007, indicating a 93% rise.

According to a study conducted by International Monetary Fund (IMF) in 2004, a 40% sustained increase in oil prices has the potential to decrease the real GDP of OECD countries by 0.4% every year and that of growing economies, such as India and China, by 1%. This study indicates a decline in real GDP of more than 2% for non-OECD countries and more than 1% for OECD countries. This fall would be accompanied by double-digit inflation in developing countries as is already the case. The real impact, however, could be higher as the IMF model does not take into account the policy responses to combat inflation arising out of high oil prices. This scenario would affect the economic well-being of developing countries and put net importers of oil at risk, with the magnitude of impact dependent on oil intensity and the amount of oil imported by these nations.

The graph below indicates the current and projected energy intensity of nations according to a study done by IEA. The study shows that the oil intensity of Asian and developing nations was higher in 2007 than that of OECD countries (oil intensity represents oil consumption per thousand dollars of GDP and is indicative of a nation’s dependence on oil to sustain higher growth).

 Energy Intensity of OECD and Developing Nations (Source: World Energy Outlook, 2006)

image002.jpg

This graph indicates that the impact would be the highest on Asian and developing countries, such as India and China, and to a lesser extent on some of the top importers such as the U.S., France, South Korea, and Italy (refer to tables given below). On the other hand, the economies of exporting nations such as Saudi Arabia, Russia, and the UAE (refer to table given below) stand to benefit.

 

Top 15 Importers of Oil in 2006

Top 15 Exporters of Oil in 2006 (Source: IEA)

image003.jpg

image004.jpg

 

IMF surveyed a sample of 42 developing and emerging economies. The results showed that less than half of these countries passed the burden of high crude oil prices to their customers. When oil prices surpassed US$100 in 2007, developing countries responded by announcing explicit (1.5% of GDP) and implicit fuel subsidies (up to 4% of GDP). The share of developing countries in global GDP increased from 23.6% in 2002 to 26.6% in 2007. This rise has exposed them to a major risk of inflation due to higher fiscal deficits. India’s fiscal deficit, including off-balance-sheet liabilities, is expected to rise from the earlier estimated 2.5% to 4.8% of GDP in 2008. China’s fiscal deficit is also expected to cross 4.0% in 2008 from the earlier estimated 2.5% due to subsidies. According to IMF, the fiscal deficit increased by 1.3% for 19 countries in 2007. Subsidies have created an unwarranted demand, further contributing to fiscal deficits in these countries. If oil prices continue to rise, real GDP growth worldwide would contract. However, developing countries would be more affected this time due to their higher energy intensity in contrast to the 1970s when developed countries were significantly impacted.

 

Drivers of oil prices

Rising demand: The table below shows the trends in oil consumption from 2001 to 2007. We can see that industrialized economies, such as the U.S., U.K., and France, and emerging economies of China and India have higher-than-expected demand. Oil prices in emerging economies are kept artificially low by subsidizing oil prices; these subsidies have further increased demand. However, recently, these countries increased domestic petroleum product prices to factor the continuous rise in oil prices. The table below shows that the share of India and China in total consumption worldwide grew to 12.6% in 2007 compared to 9.3% in 2001. Moreover, consumption in these countries increased at a significantly higher rate in 2007 (9.3% for China and 3.3% for India) as compared to that worldwide (1.1%).

 

 

oilsuppydemand.png

  • Supply Shortage: Among suppliers, only Saudi Arabia has spare capacity of 1.4 million barrels per day. If OPEC countries invest in expanding capacity, supply could exceed demand in the long term. As a result, OPEC is unwilling to make more investments in increasing capacity.

 

  •  Supply-Demand Mismatch: The table below shows the supply and demand scenario for oil as measured and estimated by IEA Short Term Energy Outlook.

oilsuuply.png

It can be seen that worldwide demand is currently exceeding supplies and inventories are getting wiped off. Although IEA expects supplies to increase in future and demand to decrease, the supply-demand mismatch at present is evident. Furthermore, the scenario of supply exceeding demand seems unlikely due to subsidized fuel by developing nations.

  • Fewer incentives to increase supply: It is difficult and more expensive to find new oil. Nationalized oil companies have poor incentives to raise long-term capacity. In addition, many governments (Russia, Venezuela, and Nigeria) see oil as a welcome rent and keep raising taxes, thus reducing the incentive to invest. Moreover, political chaos in the Middle East and the rush toward alternative energy makes investment highly risky.
  • Low stocks: Oil companies have tried to become more efficient in recent years and operate with lower stocks of crude oil. Global oil inventories declined from 3,577 million barrels in Q1 2007 to 3,489 million barrels in Q1 2008. This means there is less of a cushion in the market against supply interruptions. Events such as violence in the Middle East, ethnic tensions in Nigeria, and strikes in Venezuela have had a greater effect on prices in the past year than might have been the case if stock levels were higher.
  • OPEC strategy: OPEC accounts for about half the world's crude oil exports. The cartel attempts to control prices by trimming or increasing oil supplies in the market. However, OPEC is now acting more aggressively, announcing production cuts to pre-empt any weakening in prices. OPEC chief Chakib Khelil indicated that prices may reach US$150–170 per barrel.
  • Actions of speculators: The combination of low oil stocks and OPEC’s actions to keep stocks low leaves the market exposed to the prospect of sudden price rises if supplies are threatened. Actions of speculators are also driven by a fall in value of the dollar (US$ has fallen by 14% as compared to the Euro from July 2, 2007, to July 2, 2008). The increase in other commodity prices in the recent past has made oil a safe haven in times of high inflation. Although IEA initially stated that speculation is mainly driving the oil rally, the organization re-emphasized on July 2 that the surge in oil prices is mainly due to demand-supply factors. Oil has presented itself as a hedge against inflation and an opportunity to make speculative profits. Hedge funds and investors have drawn money out of debt/equity markets and are looking for an asset class which performs when inflation is high. According to a new edition of IFSL’s commodities trading report, physical and derivative trading of commodities on exchanges worldwide increased more than 33% in 2007 to reach a record 1,684 million contracts.
  • Insufficient refining capacity: Refiners are struggling to meet demand and are competing with each other, and with China, to secure supplies of high quality, light sweet crude needed for new gasoline blends. Saudi Arabia's previously spare capacity, now being pushed into the market, is mostly of a heavier grade than is suitable for processing by most of the installed refineries, increasing demand for higher grade crude oil. Oil refinery throughputs have grown 1.26%, while worldwide consumption has increased at a 1.54% CAGR since 2001.

 

  • Political unrest in oil producing countries: Recent development of tensions between Iran and Israel as well as political tension in Nigeria and Venezuela (which is claimed to have very high oil reserves) has raised fears of interruption in supplies. This scenario has further augmented supply concerns, pushing oil prices.

 

Short-term Outlook (1 year): Oil prices are expected to continue their upward trajectory due to artificial demand, no immediate increases in supply, political tensions in oil producing countries, and speculation. Goldman Sachs expects that in two years, oil prices would be US$150–200 per barrel, while JP Morgan estimates prices to be around US$150 per barrel in one year. Considering current crude prices of above US$146 per barrel and constant growth in worldwide consumption, oil prices are expected to continue their upward trend to exceed US$175 per barrel. Triggers for its downward movement would be easing of political tensions, demand destruction, high investments in scaling up production capacity, and removal of subsidies by developing countries. The current price levels of oil may slow down growth in emerging and developing markets, which are also net importers of oil. These nations in turn may suffer from higher inflation. The policy responses to inflation may curb growth for 1–2 years due to the lagging effect of policy actions.

 

Medium-term Outlook (3–4 years): Oil producers as well as consumers want stable oil prices. If oil prices continue to remain high, importers would look to reduce their dependence on oil by developing alternative fuels; this would negatively impact producing countries. Due to high oil prices, demand for oil would be curtailed to an extent in the short term. Reduced demand, coupled with investments in expanding capacity by producing nations in a bid to keep oil prices stable, is expected to bring down oil prices to US$110–120 per barrel in inflation-adjusted terms. This range is higher than EIA’s projection for nominal oil prices at US$90 per barrel in 3–4 years.

 

Growth in emerging and developing nations would decline in the medium term due to the sustained effects of inflation. The governments would also come under pressure to decrease oil subsidies. If these two issues are addressed, emerging nations could bounce back on the growth track in the medium term.

 

Long-term Outlook (10 years): In the long term, oil prices would depend on the ability of countries to utilize their reserves. The graph below indicates the world’s oil reserves and the controlling position of individual countries in these reserves.

 

Worldwide Oil Reserves & Share of OPEC (Source: OPEC)

image007.jpg

 

 

The graph shows that OPEC controls 77% of proven oil reserves. Moreover, the cartel is in a controlling position to influence prices as OECD nations would not be raising production due to fears of reserves depleting in the long term. Oil prices in the long term would depend on growth in consumption along with investment in production capacity and alternative energy by different countries. High cost of alternative energy, sustained demand for oil (expected to grow 2% per year until 2030 according to EIA), and OPEC’s strategy would provide support to oil prices. These factors would not let oil prices drop below their medium-term levels of US$110–120 in inflation-adjusted terms. This level is higher than the nominal oil price of US$126.9 projected by IEA for 2019. In the long term, the world would have adjusted to high oil prices. Furthermore, the importance of alternative energy would increase due to uncertainty over the exact amount of oil reserves, with the date of Hubbert’s Peak predicted by many geologists to be coming near (many expect it to be around 2020). The influence of oil prices on growth in the long term largely depends on the rise of alternative energy to break the monopoly of oil as a source of energy.