Thu, Feb 25, 2016|Justin Brill

A crack in the 'foundation' of the U.S. economy…

A crack in the 'foundation' of the U.S. economy… 'Liquid American Freedom'?... The shale-oil 'decimation' begins… A big night for Steve Sjuggerud… Claim your FREE OneBlade razor...

The most important part of the U.S. economy – the services sector – has "ground to a halt" this month, according to financial analytics firm Markit.

The company's proprietary U.S. Services Purchasing Managers' Index ("PMI") fell to 49.8. Readings below 50 represent economic contraction, while readings above 50 represent growth.

This is the first real contraction in the services sector since late 2009, when the index was created. The index did briefly dip below 50 in October 2013 during the partial federal government shutdown, but quickly jumped back above 50 immediately after the shutdown ended.

Markit said the data show a "significant risk" of the entire U.S. economy falling into contraction in the first quarter of the year, as business activity has now slowed for three straight months. It also warned that "slumping business confidence and an increased downturn in order-book backlogs suggest there's worse to come."

Some are pointing to continued disruptions from last month's big winter snowstorm as the primary cause for the decline. But the firm itself was skeptical, as Markit chief economist Chris Williamson noted in the company's news release...

It's worth remembering that the month saw adverse weather affecting many parts of the country, so some bounce-back may be seen in March. But the weather can only explain part of the slowdown. It's clear that business confidence has faltered significantly, reaching the lowest since August 2010 in the service sector in February.

Optimism about the outlook has been on a downward trend over the past two years, with worries about the global economic outlook, financial market volatility, the presidential election and interest rate policy all taking a further toll on business morale in February... Any bounce-back from the weather may therefore prove to be only a temporary improvement in a steady downward trend of business conditions.

Regular Digest readers know we've already seen signs of a contraction in U.S. manufacturing. Seeing signs of contraction in services as well – which account for at least two-thirds of U.S. economic activity – is even more troubling.

We should note that a similar gauge with a much longer track record – the Institute for Supply Management's ("ISM") non-manufacturing index – has not yet been published for February.

The ISM is more inclusive than the PMI. It measures business activity in services and all other non-manufacturing industries, tracking nearly 90% of U.S. economic activity.

Like the Markit Services PMI, it showed business activity remained just above the critical 50 level in January. If it, too, shows a contraction this month, expect to hear many more warnings about a recession in the U.S. this year.

We'll update you when February's data are published next week.

Switching gears, we take a break from the stream of bearish energy news to highlight a little positive news...

As we mentioned last month, the first tanker full of U.S. crude oil to be exported in 40 years – what some called "Liquid American Freedom" – quietly left Corpus Christi, Texas on New Year's Eve. At least a handful of others have since followed, headed for other countries. (We won't know exactly how many have left until January data are released by the U.S. Census Bureau.)

Bloomberg Business reports that the beginning of U.S. oil exports is already changing the global oil markets as buyers look to diversify their oil imports from OPEC and other big producers. As Mark Mills, a senior fellow at the Manhattan Institute think tank, put it...

If you're a buyer in, say, South Korea, and you're offered the same price from Saudi Arabia, Russia and the U.S., you're going to make the obvious choice: the U.S. It's the one supplier you know is never going to threaten you or cut off supplies, which is certainly not the case with Saudi Arabia, Russia, or Iran.

A similar situation is now happening in natural gas as well...

Last night, the first shipment of liquefied natural gas – or "LNG" for short – produced in the continental U.S. left from gas giant Cheniere Energy's (LNG) Sabine Pass terminal in Louisiana, headed to Brazil.

These trends will be incredibly bullish for the U.S. economy in the long term.

Just a few years ago, it was unthinkable, but now the U.S. could ultimately become the world's biggest producer of oil and replace Russia as the cheapest producer of natural gas.

But in the short term, increasing the supplies of oil and natural gas on the global market will only add to the huge global energy glut that already exists.

In related news, two of the biggest shale-oil companies in the U.S. announced fourth-quarter earnings last night. And they were as terrible as you would expect...

Continental Resources (CLR) – owned by billionaire wildcatter Harold Hamm – reported a net loss of $139.7 million last quarter, or $0.38 per share. The company lost $353.7 million for the year, its first annual loss since going public in 2007.

Continental also announced it's halting all fracking operations in North Dakota's Bakken shale. While it will continue drilling some areas, it said it will leave most wells unfinished this year, and expects its production to decline up to 10%.

Whiting Petroleum (WLL) went even further...

Whiting reported losses of $98.7 million for the quarter, and $2.2 billion for the full year. It said it would not be maintaining any active drilling rigs in the Bakken in 2016, and announced it could cut production as much as 20%.

These reports aren't a surprise, but they're notable for a couple of reasons...

First, they confirm what we heard from shale-oil expert Mark Papa yesterday... Many companies are likely to be "decimated" in the coming months, and it's going to be "really, really ugly to get through this valley."

Second, while there's no doubt many of these companies won't survive, they could delay the inevitable for a while longer.

These two companies are basically shutting down all activity in one of the most productive shale regions... yet they expect their annual production to fall by as little as 10% this year. This is because they're incentivized to continue producing oil from the wells they've already drilled elsewhere.

Current production data suggest it would take industry-wide cuts of those levels to bring global supply and demand back into balance (and that ignores the likely production increases from Iran). As Porter explained on Friday, production cuts of that size are unlikely in the near term.

But even in that scenario, it would still likely take months and months to work off the huge glut of oil already stockpiled around the world... which just hit a new all-time high of more than 507 million barrels in the U.S. last week.

We continue to believe it's far too early to expect a long-term bottom in oil prices.

Next... we'd like to share a note that has absolutely nothing to do with finance...

Our friend and colleague Steve Sjuggerud was invited to perform on stage last night with a couple of the planet's best musicians... Muriel Anderson and Stacy Hobbs.

As you can see in the photo below, it wasn't your typical performance...

Apparently their instruments were required to have an extra appendage, as everyone either had a harp guitar or a harp ukulele. The show might have set a Guinness World Record for the most harp ukes on a stage at one time!

If you've never seen someone play one of these unusual instruments, it's an incredible feat.

You can check out Muriel's harp guitar skills here and Stacy's harp guitar skills here. Steve doesn't have a harp guitar clip of his own... but you can see him playing an unusual seven-string guitar right here.

Finally, one more thing. As you might recall, Porter is making an extraordinary offer right now to all subscribers – but only for 30 days.

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In the mailbag, we clear something up for a confused reader. What's on your mind? Let us know at feedback@stansberryresearch.com.

"So far I have only been [selling] naked puts (on stocks I want to own) and covered calls. I am confused, when you say sell a stock short. In terms of sell to open, buy to close on a put or a call, how to I submit a short sale? Thanks." – Paid-up subscriber Bill J.

Brill comment: Shorting a stock – also known as short-selling – doesn't involve the options market at all.

Here's an example... Let's say you're bearish on shares of electric-car maker Tesla (TSLA).

To execute the trade, you would simply submit a "sell" order for the number of shares you'd like to sell short. When you sell those shares, the value of those shares will be placed into your account (just like when you sell a stock you own).

What you're actually doing is borrowing shares from your broker and selling them into the market... but placing the sell order requires no more effort than placing a buy order.

To close the trade, you would simply place a buy order for same number of shares you sold short. The value of those shares will then be removed from your account (just like it is when you buy a stock the usual way).

If Tesla shares fall like you expect, the value of the position will be lower when you buy those shares back, and you get to keep the difference. Of course, if shares rise, you'll owe the difference. This is why position sizing and trailing stops are just as important when selling a stock short as they are when buying a stock.

We've published a timeless interview about short-selling in the Stansberry Research Education Center. You can read it for free right here.

And if you'd like to take your education to the next level – and learn how to include short-selling as part of a complete "bulletproof" portfolio – click here.

Regards,

Justin Brill
Baltimore, Maryland
February 25, 2016

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