Goodbye 2024, welcome 2025!:

That’s a Wrap! Take a bow 2024!

With the passing of the old year and the entering into the new, we’d like to wish all of our clients, customers, friends and our detractors a happy and prosperous New Year. May 2025 bring all the best to you and yours.

As is our tradition we welcome the New Year with a collection of commentary, sometimes informative but always sarcastic and caustic. We see no reason to break this tradition. 2024 was a wild year. Some parts of the spectacle were foreseeable, others surprising. The wars in the Ukraine and Middle East rage on, each with elements of novelty and banal regularity.

The fall of Syria to forces seemingly allied to Turkey is a wild card. While it certainly changes the map, will it usher in cheap Qatari gas to Europe? This is yet unknown. It certainly diminished Iran’s strategic depth, their ally and client in Syria is now a potentially hostile actor. It is safe to assume that peace will not break out in the Middle East-at least in 2025. The push to repatriate the refugees seems to be gaining some traction, though it will depend on the situations on the ground.

The other war is going less splendidly for the forces of light and good, er NATO. After a foolhardy push to take the fight to Russia’s Kursk region, the Ukrainian Army is rolling back across the front. Russia got a chance to play show and tell with a new toy they’ve been working on in secret. The new “Oreshnik” MRBM wasn’t on our 2024 cards, but in a more ominous turn, the Russians have scrapped their unilateral moratorium on short and intermediate range nuclear missiles. The other semi surprising development is the looming curtailment of Russian gas to Europe via pipelines crossing the Ukraine. The Ukrainian transit deal runs out as we write this letter. Slovakia and Hungary will probably be supplied via Turkstream, but Ukraine will lose all of its revenue. The Ukraine will also lose its “reverse flow” potential. They may wind up cold and penniless. This outcome also diminishes the energy security in Europe. One accident or suspicious diving incident could eliminate the Turkstream, though the Turks might act less like the Nordic Inspector Clouseau and more like Joe Friday.

Instability to either supply (Qatari or Russian) should be a positive to US natural gas markets-that is if we figure out how to send the ships out of Houston. The EIA claims that US LNG exports have quadrupled from 2018: https://www.eia.gov/dnav/ng/ng_move_expc_s1_a.htm . Looking at the time series of natural gas price and vol we see:

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We see that prices (orange) have made a dash back to $4. This is a stark reversal from the beginning of the year, but if you observe the plot below, you’ll see that it spent a lot of its time in the 1.5 -2.5 dollar range. Vol has ticked up, and is higher than its 2018/2019 lows, but off its euphoric highs. It is remarkable that in the presence of several large, late season storms on the US Gulf Coast there wasn’t more of a push. Even the spread of the implied vol was tight around the mean 60%. Energy has a way of ignoring fact until it doesn’t. With the curtailment of another set of European pipelines, we suspect that exports will become more important. The “giant orange trump card” was the other “unforeseen” event (at least in the elite circles). Yes, Trump is perceived as friendly to the business development of energy resources. However, there are broader geo-political-economic reasons why Trump might not care to help exports of energy products. High energy prices in Europe and low prices in the US would induce foreign firms (primarily European) to relocate their operations to the US. In the US, these relocations would seem to favor “red” states, further improving Mr Trump’s political legacy.

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Politics were definitely an avenue in which the world decided to shuffle the deck. With the dementia no longer deniable, the Democrats forced Mr. Biden to exit stage left. This left the contest between Mr Trump and Ms. Harris. It seemed hard to understand how, in surviving two assassination attempts, Mr. Trump wouldn’t win the contest. A cat has nine lives, Mr. Trump apparently has at least three. There is much about the incoming president’s agenda which is internally at odds with itself. We’ve covered this in our previous monthly missives follow the link https://commodityvol.com/aux/doc/WEB/WEBSCROLL/WEB/Nov2024/ . We believe that there will be a lot more turmoil in the Trump presidency. Our suspicion is that much of the growth that the Bureau of Labor Statistics and Commerce Department booked in the Biden presidency is illusory. The mark to reality will come during the new president’s tenure. He will be the bag holder for much of the Biden legacy. Moreover, as we’ve detailed below, even in a perfect world, where all unemployment is due to labor friction (eg it takes time to find a job because seeking the new one, applying and acceptance doesn't happen at once), Trump and Musk’s “DOGE” initiative will create a lot of unemployed government and government related workers. If these people are, in fact, structurally scarred (because of their time in government employment) then we can expect unemployment to stay stubbornly high. You cannot “Make America Great Again” with upward rocketing unemployment and you can’t ship these people to Mars yet. Many people look at the Trump phenomenon and point to the “Reagan Revolution”. Reagan’s economy took off, but so did debt and government’s ever increasing appetite for real income. In today’s world, we are coming off of multi generational low interest rates. We suffer not from too little capital, as the chowder heads on business TV yap about. Here is the 10 Year future’s performance (and the at the money implied vol).

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Even with the cut in Fed Funds and the “dovish” language, rates went up. We’ve covered this little tidbit. The bond market isn’t being fooled this time. The issuance is a massive brick that someone will have to swallow and pass. While rates are off their highs, they are well off their lows this year. The reality is pursuing a MAGA policy which increases issuance will make the pain worse. In the waning days of 2024, our illustrious political class decided to do that with continuation bills that are fiscal malfeasance writ large.

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Look at the range on SP500 futures, then glance at the tight range around its vol. This is disturbing. The market “climbs the wall of worry” as the talking heads are fond of saying. However, look at the spread in vols over the past year in Gold and Rates. Looking at the scatter, the linear relationship between gold and the SP500 is almost hard to believe. It should suggest a much larger scatter of vols in the SP500. There isn’t much more to glean except to behold the range on gold futures.

The incoming president has either unveiled or hinted at a panoply of initiatives to fix what ails the country. A simple initiative, like repatriating the migrants or illegals, will not be cheap. Increasing military spending to refill the Defense Department’s stocks will also not be cheap. Just as Obama’s pledge to pay for Obamacare’s costs via “cost efficiencies” caused costs to skyrocket and rob most people of decent insurance options, we suspect border security, defense, repatriation and so on to balloon the budget- DOGE not withstanding . Barring a truly revolutionary act like repudiating the debt, rates must go up and/or the dollar must weaken.

The political picture across the world is hardly one which could have been predicted. Most of the western democracies have governments which either have fallen or remain deeply and incontrovertibly unpopular. A definite unpredictable unknown was the Coup-Impeachment drama in South Korea. Who’d have believed that of the two Koreas, the one in the South would seem more like a banana republic. On the one hand we have global political insecurity as voters are tiring of paying more in taxes and seeing greater dysfunction. This should bode well for King Dollar. On the other hand, we might be remiss if we didn’t mention the debt and the push that will exert on the US as a place to park capital. This is what makes the situation most interesting. You have the typical interest rate parity argument where interest rate changes push fx rates to equilibrate, but the x-factor is the “country premium” which is determined by exogenous factors like political stability and fiscal irresponsibility.

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The interesting aspect of the FX market, is first the wide dispersion visiting the Euro and Yen. In vol terms, the correspondence between Euro and Pound vol is almost linear. In terms of vol, the Yen seems to be the champ. Again, it is a bit perplexing that FX vol can be in the same scale as SP500 vol, but this is the reality in the 2020s.

The unsurprising surprise of the past year has been the moribund action in oil and its related complex.

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The moves in futures for Brent and WTI as well as their vols seem to exhibit a linearity that is unusual. Given all the wars, the sanctions on Russians, Chinese economic malaise, you might expect a bit more vol and wider ranges. The range for oil was 25 dollars. Vol was mostly range bound in the 20 to 30% range.

Here are some statistics on realized/implied vol of the crude oil contract. It is interesting to note that there is a pickup in uncertainty as the year draws to a close. It does look like the vol market is very consistently tracking the underlying.

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In order to make meteorologists look good, we make some prognostications about the future. We do this in a best/worst case framework .

Predictions

US Domestic Situation: Best case.

The US finds a soft employment situation early in the year. The effect of public backlash against H1B causes more companies to hire and train domestic talent. The administration can admit weakness in the job market, but point to progress in employing Americans in good paying, upwardly mobile jobs. The new administration tightens and actually starts enforcing border control. The pace of deportation increases, though at a manageable rate. There are a few sweeps of “sanctuary” cities, but most of the action occurs behind the scenes, reminding governors and mayors how much wealth the federal government divvies up. On the budget side, the US makes cuts in the size of outdated weapons systems, the DOGE initiative cuts some government fat and jawbones government contractors into more reasonable configurations. With some discipline in government spending, interest rates rise, but not aggressively. On the equity markets, we’d like to see a meltdown of the 7 story stocks. We see a blueprint of this occurring to Microstrategy in the waning days of the year. A sideways stock market would be healthy and cure the easy money fixation that seems to afflict people who pile into NVIDIA or Lilly. Beyond the nifty 7, there is some overvaluation but nothing close to the 30-40 P/E that the top 7 exhibit. In short, the best case is a slow unraveling of bubbles and finding of bedrock in the polity and economy.

US retail real estate suffers from stagnant home prices. Prices in COVID boom areas like Texas, Florida and etc plunge. People look to unload AirBnB and VRBO homes to lighten debt loads. All of the supposed wealth of mini-barons evaporates and everyone is left with fond memories of the cabin in Pigeon Forge. The decline in commercial real estate reaches levels such that local municipalities reduce taxes and start policing their communities. This brings back some commercial activity.

US Domestic Situation: Worst Case.

The worst case would be one where the new administration hits everything at once, attempting to replicate Milei’s policies in Argentina. An increase in defense spending, increased border security, domestic spending on efficiency improvements would all lead to accelerating interest rates. High rates have a bad habit of showing all the places where the emperor is naked. Moreover, bobbling the initial handover period would expose the Trump administration to mid term election failures. The nativist sentiment that elected Trump has not taken kindly to Musk’s opinions on H1B visas. There is also a distinct possibility of a formation of some sort of nativist movement that transcends the Democratic/Republican divide. Th e best example of this phenomenon is the outrage at Chicago’s Democratic mayor for his perceived sympathy to migrants/illeg als at the expense of a demographic which has voted Democrat reliably since the 60’s. A coalition of right wing rural and semi-rural populations with primarily black inner city residents would be the X factor that would rock the politics of the US. Alternatively, you might have a replay of the BLM riots if/when deportations start.

A s we’ve highlighted in this document and other previous ones, rates are higher than they’ve been recently, but they are still some what at or below historical norms. If one accounts from inflation, real rates are still very very low. This does not stop the complaints that real estate is seizing up because of the high rates. If households are as leveraged as they’ve been historically, the relatively high rates could trigger a cascade of real estate foreclosure. Unlike previous cases, there isn’t much the Treasury or Fed can do. The Fed’s balance sheet has ballooned since 2008. It has limited room for increasing that balance sheet since inflationary expectations would explode. The case for commercial real estate is even worse. One doesn’t have to look very hard to see the commercial real estate implosion. Both residential and commercial real estate are facing the same cause. Cheap interest rates and the COVID fiasco fueled a massive trade in real estate that probably didn’t have an economic rationale. In a worst case scenario we have an unwind of the entire 2020+ real estate boom, with rates surging as the government tries all sorts of band aids.

The European Situation: Best Case.

There are no good cases for Europe economically . It is a train wreck. Europe has allowed itself to be divorced from a cheap and reliable vendor of energy in the pursuit of Green ideals and the need to show themselves the most willing vassal of DC. The best base scenario would be maintaining some status quo in the face of higher and more variable energy prices (the Russian contracts were long term ones, where pricing was approximately predictable). Moreover, the political instability is growing everywhere. The AFD is making gains in Germany. There is generally a nativist movement brewing in Europe. Repatriating Middle Eastern refugees might sate some of the populists here.

The best case in the Ukraine conflict would be a realization that the US/British project for regime change in Moscow failed. It is unlikely the Russians have any appetite for the entirety of the Ukraine. A managed partition of the former Ukraine might be in the cards. A further reasonable outcome might be a revisiting of the wisdom of swelling NATO membership by including small countries in the Balkans and Eastern Europe. Overall, given the political weakness of the ruling parties in France and the losses in Germany, there is no theoretical chance for Europe to conduct policy independent of Washington.

The European Situation: Worst Case.

If, in an “Art of a Deal” imitation , the US administration attempts oneupmanship with the Russians, then there are many bad outcomes. The Russians have hinted they will not hesitate to strike European countries they perceive as fueling the conflict. As von Moltke quipped, “No strategy survives contact with the enemy.” Western policies in the last 3 years bear testament to this. US and EU politicians are used to being in the driver’s seat and assuming they have escalation dominance. The sanctions haven’t worked. The destruction of the Nord Stream pipelines and the loss of the German energy market haven’t stopped the Russians. The Russians have fastidiously batted down offers for a temporary truce or a 10-20 year hiatus on Ukrainian ascension to NATO. Moreover, it is interesting that very few peace initiatives are emanating from Moscow. They were burned by the West in Minsk I and II. If the Russians annihilate the Ukrainian Army then there are a lot of bad outcomes for Europe. Let’s say that the ghosts of World War II will come back to haunt the region. There are all sorts of historical and cultural reasons for Poland, Slovakia, Hungary and Romania to carve off some piece of the country. Furthermore, the worsening antagonism between tiny Moldava and Russia over unpaid energy could also unfreeze the Trans-Dniestrian conflict. Obviously new waves of refugees, potential missiles flying West and uncertainty of borders is not conducive to growth and stability. Many pundits make the claim that anything up to nuclear war is acceptable. It is our belief this is folly.

Economically, further increases in energy prices and shortages coupled with increased taxation to appease the bond markets which are also not happy with European sovereigns will drive more manufacturing out of Europe. European instability takes hysterical tones when high unemployment is coupled with high prices. The Germans used to understand this and temper their policies. The current crop of dreamers seem to have forgotten history.

The ex-Europe Situation: Best Case.

The US postpones or loses interest in ginning up a war against the China. The US concentrates itself on extricating the country from a debt fiasco (at the federal and local level). It concentrates on finding a core cadre of people around whom real research and development can coalesce. In the Middle East, the wars burn at a slow rate. This doesn’t diminish the misery of the people caught in that cauldron, but it localizes the damage. In other words, US evangelicals miss out on the Rapture on this go around and the Sykes-Picot line isn’t redrawn. The Chinese economy awakens from whatever snooze it seems to be taking and its domestic consumption improves-balancing some of the current account deficit with the rest of the world.

The ex-Europe Situation: Worst Case.

What could wrong? Lots. The wound that is Syria could bring Israel into active conflict with its frenemy, Turkey. Turkey is actively consolidating its hold on the former Syria, Kurdistan and Iraq. A regional power like Turkey with broader ambitions may not be tolerant of another regional power, Israel. The previous Trump administration, under Mike Pompeo, had been very supportive of a Greek-Cypriot-Israeli axis in the Eastern Mediterranean. It didn’t sit well with Erdogan then, it will probably not sit well with him now. So far, the initiative has been with both the Israelis and Turks. While Syria has been neutralized, Hamas and Hezbollah beheaded, their bodies still exist. Just as Assad had defeated ISIS only to see it come back, Iran has probably not played its last card. There is reportedly a defense treaty the Russians will sign with the Iranians on the eve of Trump’s inauguration. The Russian bases in Syria remain. They could easily become trapped pawns for NATO retaliation if there is escalation in Europe. A Russian defense treaty and open military cooperation would be the lifeline the Iranians need to rearm and become more potent adversaries. There is also the possibility that the Iranian religious authorities, witnessing their president most likely assassinated, and assessing their position more precarious with the loss of the Syrian buffer, might lift the prohibition against nuclear armaments. Even without this possibility, the Russians have hinted they would make advanced missile technology available to parties not friendly with the West. The worst case might include clashes between Israeli and Turkish proxies, a resurgence of Hezbollah in more than a defensive role, further closure of the Red Sea and a much better equipped Iran.

In Asia, the US might take a much more aggressive posture with the Chinese. In some sense the US establishment has to give up on the “two wars” philosophy and must concentrate on one. If the US packs up in Europe and accepts the Russian demands then look for a quick ramp up in the bellicosity. The issue of Taiwan has transcended rationality and is some sort of object of faith. That is precisely why there is a high likelihood of conflict here.

The effects on commodities of this outcome would be hard to predict. In case of further conflagration in the Middle East, you might see energy prices spiking. Europe is most poorly situated to deal with the disruptions. Oil still comes from the Middle East as does LNG from Qatar. In a clash with China, anything is possible.

In summary, we hope for best case outcomes that exceed our best case expectations. However, our concern is that complacency has invaded every strata of economic activity. Retail investors are addicted to trading ( https://www.wsj.com/livecoverage/stock-market-today-dow-sp500-nasdaq-live-12-20-2024/card/the-crack-cocaine-of-the-stock-market-men-are-addicted-to-trading-uVcLGXqNOL5zixd3kt6c ), risk markets see very little hedging behavior, the financial trading system is dominated by high frequency shops that measure risk in seconds. These are not the shock absorbers of the economy that the market makers and specialists used to be. The reality is any crack in the facade of normalcy will get amplified.

We leave the opinion part of our summary with a favorite quote from Otto von Bismarck:

“ Life is like being at the dentist. You always think that the worst is still to come, and yet it is over already.”

On to our review of major commodity markets.

Forex

How can one view 2024 and not comment on Bitcoin and Ethereum. Both front month futures were up dramatically. BTC was up a cool $52,000 and Ethereum up $1100. Vol was down for Bitcoin and up for Ethereum. This is not at all what one might expect. A blowout bid for the crypto assets might be expected to generate demand for vol. The other part of the picture, in conventional currencies was broad based dollar strength. Vol in the conventional currencies was strongly bid. Euro vol was strongly bid. It has been a rough period for Europe politically and economically. The Dollar was very strong against the Yen. It is hard to choose which currency was most moving. The market for FX is alive. A few more months of these types of moves is sure to begin breaking down central bank solidarity.

Foreign Exchange ATM
Bitcoin Detail
Ethereum Detail
Yen Detail
Peso Detail

Rates

Interest rate futures were down almost entirely across the board, save a couple of SOFR futures. The US Government bond futures suffered significant losses. This comes, as we detailed in our opinion piece, on the heals of Fed rate cuts and more dovish tones. The financial press is re-acquainnting themselves with the notion that there is more to interest rate determination than the opinions of a few stuff shirts. They are no longer masters of the universe. They never were. Vol was also down across the board. It could be that markets are waiting to see which way the cookied crumbles. Will there be more unemployment than inflation? More of both? That will determine a tone for the vol markets. We may even see the TED Spread return, will be the TsOFR?

Interest Rates ATM
30 Year Detail
SOFR Detail

Equity Indexes

Equity Index really show that pigs can fly. The Nasdaq and SP500 were both up over 20%. Yes, vol was up as well a whole 200 Bps for both indexes. The VIX was up 4 points. The general theme of the markets has been outperformance by a few names. Valuations are stretched for these top 7. How high can this go? To Mars, maybe? The valuations are beginning to draw all sorts of questions from the normally docile financial press. The hype around AI hasn't yet abated, but questions are beginning to crop up about the economics of OpenAI. Why is it so capital intensive? There are lot Big Tent Revival sorts of testimonials to the greatness of AI, but the profitable ones seem to be as scarce as temperance in a tavern.

EquityIndex ATM
SP500 Detail
Russell Detail
VIX Detail

Metals

The metals picture was a mixed bag. Gold, silver and aluminum shone brightly. The gold and silver performance could easily be attributed to the debt explosions that are suddenly being observed in the US and elsewhere. It seem they appeared like crop circles in a farmer's field at night. The performance of the other industrial metals can probably be attributed to lingering malaise in China. Implied volatility was a mixed bag with values mostly down.

Metals ATM
Gold Detail
Palladium Detail
Copper Detail

Ags

Discussing ags in the winter is like motorboating through a desert wasteland. However, we persevere. Corn in the US was down 4%. Corn in Europe was up 11%. There is a similar patter in US versus European wheat. Hogs were up as were cattle, both feeder and lean. The soybean complex was down significantly with vol increasing in beans and oil. Most likely this signals a good crop in Brazil or Argentina. Overall, vol was a mixed bag.

Ags ATM
Feeder Cattle Detail
Live Cattle Detail
Corn Detail
Soybean Detail
Ags Details

Energy

Except for Natural Gas and Ethanol, every was down in price year on year. Natural gas was up over 50%. The cold snap in the US and ongoing issues in Europe are driving prices. Vol for oil, both Brent and WTI, is down over the year by 11% at the money. This is a hard thing to understand. Natural gas vol was up modestly.

Energy ATM
US Natty Gas Detail
WTI Crude Detail
Details Energy

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