Rumblings of Oil Output Freeze Extend Momentum to Wall Street

Wall Street saw its biggest weekly gain so far this year thanks in part to a run up in global crude oil prices as talk about a possible reduction in output was on the top of investors’ minds.

Here’s what drove the markets this week.

Crude Snaps Losing Streak

U.S. oil prices snapped a two-week losing streak, rising 0.68% this week – the biggest one-week net percentage gain since January 29 – thanks  to headlines out of the Middle East suggesting some of the world’s biggest oil producers were more willing to cut output soon.

On Tuesday, four nations – including Saudi Arabia, Russia, Qatar, and Venezuela – said they would be willing to consider capping their output at January levels if other nations agreed to go along as well. The move sent oil prices surging, but by Friday, the rally fizzled out as hopes faded for a real commitment from the biggest oil-producing nations.

On Wednesday, Iran – one of countries expected to ramp up its output this year after international sanctions were lifted in January – said it would theoretically support a move by other countries to cap their outputs at January levels, but the country didn’t give a firm answer as to whether or not it would join in on the action as it seeks to regain market share.

Thursday, an official from Saudi Arabia was quote in Agence France-Presse as saying the nation was “not prepared” to slash its production, despite floating the idea earlier in the week.

Constance Hunter, KPMG’s chief economist, said events this week illustrate a classic game theory problem.

“It doesn’t benefit anybody individually to participate in the collective action, it only works if everyone does it,” she explained. “It’s very, very hard to hold it together, and if you look at the geopolitics just within Saudi Arabia, Russia, and Iran, that is a very convoluted and complex political situation that does not help the odds that any agreement would stick.”

Further, she said while it makes sense to see global oil prices rally on just talk of a looming production-cut agreement, the proof is in the pudding when output is actually limited, not just talked about.

“The reality is, there’s close to seven months worth of demand floating around in tankers in the ocean, and so we don’t need more supply, but if we continue to get more supply, you can have all the talk in the world, but the reality is it’s ultimately supply and demand that determines the price,” she said.

Evidence Inflation Moving Closer to Target

While the Federal Reserve stole the spotlight last week after Chairwoman Janet Yellen testified before congress in her semi-annual monetary policy address, focus on the central bank remained on the back of investors’ minds this week thanks to a flurry of inflation-related data.

The Fed said when it hiked rates for the first time in nearly a decade in December that it could raise rates four more times before the end of 2016. However, citing market turmoil amid a weakened global economic landscape, the central bank opted to keep rates steady in January.

Since then, Wall Street has steadied as economic data in the U.S. has shown a bit of improvement.

The Labor Department reported inflation at the consumer level was unchanged in January from December. Prices were expected to fall 0.1% during the month. Excluding the volatile food and energy component, prices rose 0.3%, slightly more than the 0.2% rise forecasted.

Moreover, though, on a year-over-year basis, prices rose 1.4%, compared to expectations of 1.3%. Excluding food and energy, prices increased 2.2%, compared to 2.1% forecast.

Hunter said that core CPI figure is at a really good level.

“It indicates that there’s demand in the economy. What we want is the economy to be pulling up prices because there’s increased demand. And we’re seeing that because one of the other things we’re starting to see is more wage growth,” she said.

Added to the CPI numbers which were released on Friday, wholesale inflation also showed improvement in January. The Labor Department also reported prices rose 0.1%, topping expectations for a 0.2% decline during the month. Excluding the food and energy components, prices jumped 0.4%, higher than views for 0.1%.

Manufacturing Sector Stuck in Contraction

While inflation moves upward toward the Federal Reserve’s 2% target, the manufacturing sector of the economy continues to struggle alongside the global factory landscape.

This week saw the release of two regional surveys: The New York Fed’s measure of Empire State manufacturing was bleak. The gauge rose  to -16.64 in February, which was worse than the -10 level expected, but higher than the -19.37 reading from January.

The mid-Atlantic manufacturing gauge from the Philadelphia Federal Reserve, meanwhile, showed activity there remained in contraction as well. The gauge rose slightly to -2.8 this month from -3.5 in January, and came above forecasts for a reading of -3.

That data extended the narrative from the Institute for Supply Management’s gauge of overall manufacturing activity in America. In January, its figures showed the U.S. factory sector was in contraction territory. The gauge read 48.2, a slight uptick from the 48 level in December, and just above the 48.1 expectation.

U.S manufacturing, however, makes up a small portion of the economy compared to services, and as Hunter pointed out, it’s not necessarily a doomsday scenario when you consider the global factory picture.

“Quite honestly, this manufacturing problem is not just a U.S. problem. We’re having a global manufacturing recession and it’s impacting pretty much the whole world, so nobody’s PMI is in growth territory there,” she explained.

Still, she noted parts of the industrial production data also released on Friday were a good sign for portions of the U.S. economy.

“Autos, building materials, construction, any type of consumer durable goods, even non-durable goods, were positive. The parts that were negative were parts that are being impacted by the global economy. Things like metals and mining, energy production, all that is in the negative territory,” she explained.

Certainly, she said none of the manufacturing data would be enough, at this point, to put the U.S. economy in recession.

What to Watch Next Week

The last two weeks have seen a trickle of key economic data, but next week will be a tidal wave with several reports set for release on all segments of the U.S. economy. These are the figures to keep a close eye on.

?         Monday: No significant releases

?         Tuesday: S&P/Case-Shiller home prices, existing home sales, consumer confidence

?         Wednesday: New home sales

?         Thursday: Weekly jobless claims, durable goods

?         Friday: Second read of 4Q GDP, international trade, personal income and spending, consumer sentiment