Slowing the Supertanker
Written by Paul Siluch
October 26th, 2022
At the end of World War II, oil became one of the most important commodities on Earth. Since every country needed it, but not every country had it, the transportation of oil by ocean tanker boomed.
In 1945, the average oil tanker carried about 16,500 DWT (dead weight tons) of oil. By 1955, the largest ship now carried 47,500 DWT – almost triple the capacity of a decade earlier. Despite the increase, ships did have a limit – they had to fit through the Suez Canal, where most of the oil from the Middle East originated.
In the Suez Crisis of 1956, 
the canal was seized and closed by Egypt, forcing tankers to detour around Africa - a much larger distance. Oil companies quickly realized the limitations the Suez Canal had placed on them - they could move much more oil (for less) by building bigger ships. By 1958, oil tankers had doubled in size to 100,000 DWT. The world's largest supertanker – the Seawise Giant, commissioned in 1979 – could carry over 500,000 DWT and had such a deep draft, it could not navigate the English Channel. Most ships today carry about half this amount.
The Ukraine war has forced Europe to dramatically alter how it imports oil and gas. 80% of what Europe was receiving from Russian pipelines is now arriving by tanker. Is 2022 the modern era of the Suez crisis of 1956, when oil shipments were changed overnight? It could be.
A big issue with such large ships is stopping and turning around. It can take 20-30 minutes to stop a fully-laden supertanker and over five miles to turn one around. Because of the enormous inertia, pilots will often cut the engines 15 miles from the dock. Most will start throttling down hours before docking. The strain on the enormous diesel engines is too severe when they turn quickly from On to Off.
And the bigger the ship, the longer the lag time.
The U.S. Federal Reserve (the Fed) is the Seawise Giant of the world’s central banks. Its balance sheet is bigger than every other nation’s and like it or not, every banker in the world watches what the U.S. Federal Reserve does.
Like the largest supertankers, the Fed also has problems stopping and turning.
Desperate to rescue the economy from collapse in 2008, the Fed initiated a “full speed ahead” thrust with its QE1 quantitative easing program in October of that year. The U.S. economy is enormous, however, and didn’t respond right away. So, like any desperate marine pilot, The Fed gunned the engines again with a second burst of money called QE2 in 2010. When that didn’t work, a third called QE3 followed in 2012. It wasn’t until October of 2014 that the economy was finally at cruising speed and the stimulus programs stopped.
Nobody at the Fed thought it would take that long.
In 2020, just as the economy was cruising along, the Covid-19 pandemic hit the world. The Fed hit “Full speed ahead!” even harder, throwing everything they had into the stimulus engines at its disposal. Quantitative easing, negative interest rates, money printing – you name it, central banks tried it.
It worked. Just a little too well.
By late 2021, the Fed saw how fast the supertanker was moving because inflation was becoming a problem. Chairman Powell announced plans to throttle down the engines. Except the U.S. economy is a very big ship, remember? One that takes miles to turn around.
The Fed pumped the brakes hard in 2022, both through aggressive interest rate hikes – U.S. 30-year mortgages were 2% a year ago and just touched 7% - and quantitative tightening (where they pull cash out of the economy instead of pouring it in). Inflation is finally beginning to slow.
If we continue the analogy of the supertanker, what happens next? What are things going to look like a year forward?
The answer may surprise you. It has everything to do with inertia.
Source: St. Louis Federal Reserve
Inflation surged from 2% in 2020 to 8% this year as money poured into people’s bank accounts and our ship built up speed. Now, after removal of these support payments – and people spending their surplus savings - some measures of inflation could be back at 2% by late next year.
Goods inflation (the stuff we buy from Amazon) is already down. Wage inflation is rolling over. This leaves rent as the biggest component of inflation that is still rising. But this won’t last long. We are building new apartments at the fastest pace since 1973 so rents in major cities are already reversing.
Our institutional equity strategist thinks we could see a negative inflation print in 2024, thanks to a looming recession and too many “Full stop!” actions by the Federal Reserve.
What opportunities does this open up for investors? In recessions, interest rates drop as demand for loans and mortgages dries up.
More supply of money and less demand = lower interest rates.
Bond investors have been beaten senseless this year thanks to rising interest rates. 20-year U.S. bonds have fallen over 22% – the sharpest decline on record. But if inflation is going to fall hard next year (that’s not a certainty, by the way, but it is the current direction), then interest rates could also decline. We have advised people to take advantage of bonds and GICs yielding 4% this year.
Today we are seeing rates near 5%. That’s a return conservative investors should be locking in.
Check your savings account. I checked mine over the weekend and found it was paying just 1.25%. I can get 3% for daily savings here and over 5% on two year bank bonds.
Interest rates have been rising for a year now and are expected to be hiked 1-2 more times. The economy – the ship – is slowing rapidly now and port – the final hike – is in sight. That is normally the best time to lock in rates.
