The energy sector is in a slump, but that reality makes lower inflation and a concomitant interest rate cut all the more likely. As my Greek grandmother used to say: it’s an ill wind that blows nobody any good.

The oil market is reeling from worries about global demand. However, falling oil prices reduce the cost of transportation and manufacturing, which lowers the overall cost of goods and services. Consumers also spend less money at the gasoline pump.

This deflationary dynamic increases the likelihood that the Federal Reserve’s policy-making Federal Open Market Committee (FOMC) will cut rates at its next meeting September 17-18.

Last week, oil prices sank after OPEC and its allies, aka OPEC+, hinted at potentially reversing their voluntary production cuts of 2.2 million barrels per day slated for October.

This week, concerns about waning energy demand in China have further pushed prices down. China, as the world’s largest oil importer, brought in 13.7 million barrels per day (bpd) in 2023.

When China’s economic engine sputters, it spooks oil traders, sparking fears of shrinking energy demand. Last Saturday, China’s National Bureau of Statistics reported that manufacturing activity declined for the fourth consecutive month in August, with the Purchasing Managers’ Index hitting its lowest point in six months.

Adding to the mix, there’s news that a dispute in Libya, which had halted production and supported prices, might soon be resolved.

Libya’s political factions have been squabbling over control of the central bank and oil revenue, which led to a sharp decline in production. Oil output dropped from about 959,000 bpd on August 26 to roughly 491,000 bpd by August 28.

Back in mid-July, Libya was churning out 1.28 million bpd. However, the supply disruption hasn’t buoyed oil prices, suggesting OPEC+ just might stick to its planned production cuts despite the cartel’s recent intimations to the contrary.

The question now is how low prices will go before OPEC+ feels compelled to intervene, considering many of its members need higher prices to balance their budgets.

Russia, an influential OPEC+ partner, heavily relies on oil revenues not only to sustain its economy but also to fund its military operations in Ukraine.

Unfortunately for President Vladimir Putin, efforts to diversify Russia’s economy into a knowledge-based powerhouse have fallen flat, leaving the country heavily dependent on crude oil. Russia is a petro-state run by oligarchs, with few economic tools other than oil at its disposal. What’s more, Western sanctions over Ukraine have clearly hurt the Russian economy.

The drop in oil prices despite OPEC+ production curbs and Russia’s desperate machinations for oil revenue also indicates the cartel’s influence is waning as global oil production shifts to a more regionalized approach.

The energy research firm Vortexa reported Wednesday that the Big Three oil producers — Saudi Arabia, Russia and the U.S. — are steadily losing market share to the rest of the world’s producers.

And yet, despite the inane mantra among some politicians to “drill, baby, drill,” oil production has been rising (that’s right, rising) in 2024, especially in the U.S.

The U.S. Energy Information Administration (EIA) forecasts that the U.S. will produce 13.2 million barrels of crude oil per day in 2024, representing a 2% increase from 2023. Morgan Stanley (NYSE: MS) recently forecast a global oil supply surplus by 2025, largely due to increasing production.

Greater supply combined with tepid demand equals lower oil prices, at least over the short term.

West Texas Intermediate (WTI, the U.S. oil benchmark) and Brent North Sea crude (the global standard) have dipped below their year-long support levels of the mid-$70s per barrel (bbl), potentially accelerating the downward spiral. WTI has fallen slightly below $70/bbl and Brent hovers at $73/bbl (see chart):

While slumping oil prices spell trouble for energy investors, they are a boon for inflation hawks, making it more likely that the Fed will cut rates this month and thereby juice the economy and stock market.

The CME Group’s FedWatch tool indicates the odds of the Fed cutting its benchmark rate by 50 basis points this month have risen from 30% to 39%, while the likelihood of a 25 basis-point cut stands at 61% (that’s the FedWatch reading as of September 4).

Meanwhile, signs of a U.S. economic slowdown also are putting downward pressure on oil prices. The latest Institute for Supply Management (ISM) survey, released September 3, showed 47.2% of purchasing managers reported growth in August, a slight uptick from July’s 46.8%, but still below the 47.9% analysts had expected.

But that’s just one data point. U.S. gross domestic product (GDP) growth, consumer spending, and the jobs market remain resilient. I continue to believe that fears of a recession are overblown.

In fact, it seems the Fed has pulled off the elusive “soft landing,” taming inflation without steering the economy into a recession. Despite political claims to the contrary during this election season, the idea that the economy is in dire straits is a myth.

It would be wise right now to tilt your portfolio toward cyclical stocks, including bargain priced energy producers and oil field services providers. When lower rates boost the economy, oil demand should benefit and crude prices rebound. Energy stocks have slipped in recent days but they’ve been steady performers throughout the year. Buy on the dip.

In the meantime, the main U.S. stock market indices closed mostly lower Wednesday as follows:

• DJIA: +0.09%
• S&P 500: -0.16%
• NASDAQ: -0.30%
• Russell 2000: -0.19%

The oil patch’s slump continued. WTI fell 2.12% and Brent North Sea crude fell 1.87%.

The green rush…

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John Persinos is the editorial director of Investing Daily.

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