Friday September 23

Stocks fell today to end the week on a soft note as a result of falling oil prices. The S&P 500 was down 0.6% to 2,164 and the Dow Jones lost 0.7% to 18,261. Over the course of the week the S&P 500 and the Dow Jones were 1.2% and 0.8% higher respectively. Economic data today showed that the PMI flash manufacturing index came in slightly below consensus at 52.0. Consumer electronics led indices today while sectors tied to commodities sold off sharply. Oil prices dropped significantly today. WTI was down 3.7% to $44.59 and Brent fell 3.3% to $46.07 after hopes for an Opec agreement once again fell through. Rates continued to rally in the aftermath of the FOMC meeting. The 2 year Treasury yield fell 3bp to 0.75% and the 10 year Treasury yield was mostly unchanged at 1.62%. Rates have been rallying FOMC because the Fed came across a little more dovish than expected and lowered the dot plot trajectory in years to come. Accordingly 2yr vs 10yr bull steepened roughly 1bp to 0.86%. The US dollar on the other hand was for the most part stronger against peers with a 0.3% rise in the WSJ Dollar Index. USD rose 0.3% against JPY to Y101.02. USD rose 0.9% against GBP to $1.2967. USD fell 0.2% against EUR to $1.1228. In the international landscape the German 10 year bund rose 1bp to -0.08%.
Oil prices once again dropped significantly after hopes for an Opec production freeze stalled. Saudi Arabia and the rest of Opec were in discussions to cap output at each country’s respective current production levels. The lingering source of concern continues to be talks between Saudi Arabia and Iran. Saudi Arabia wants Iran to freeze output at currentl levels however Iran does not want to do that since they are still coming off of sanctions and production is still ramping up. Hopes for a potential agreement had driven up oil prices over the last week, and prices fell through along with hopes for a deal. It seems that every couple of months Opec leaders try and talk up oil prices in this manner only to have the same outcome every time. Analysts continue to doubt Opec’s ability to come to an agreement and finalize a deal.
As a result of these lingering uncertainties and risks in the oil market the Fed and other regulators are paying closer attention to oil related assets on banks’ balance sheets. Banks are required to hold a certain amount of capital against the assets (loans) they hold on their balance sheets. Riskier assets require higher capital to be held against them, which limits the banks’ abilities to earn interest on that capital. Given the state of the oil market the Fed wants banks to hold stricter capital against oil assets. Additionally if banks are involved in trading commodities such as oil and natural gas they will have to hold significantly more capital to protect the health of the financial system in the event of a spill or explosion. This is targeting physical commodities businesses, which have already been drastically scaled back post financial crisis and subsequent regulation. Goldman Sachs is very large in this space, and Morgan Stanley as well to an extent. The proposed capital levels are very significant, amounting to 300% of the value of physical commodity assets. This means that a tanker holding $1mm worth of oil would require $3mm in capital to be held against it.
Harvard’s endowment had a down year for the first time since the financial crisis, losing 2%. Additionally the head of Harvard Management Company expressed concerns that returns would be low for an extended period of time. This reflects the ongoing struggles of asset managers of all sorts to find sources of return in the current global macro environment. According to Cambridge Associates academic endowments on average returned -2.7% last fiscal year. The total size of HMC’s endowment is nearly $36bn. Within the portfolio public equities and natural resources were the main sources of losses each down more than 10%. Fund of funds investments also contributed to losses as well. The real estate team was the main bright spot, returning nearly 14%. To help combat this issue HMC said it would allocate capital to managers who have been top performers thus far.
Friday September 23

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