The refined product market is global

The big issue in US energy markets is the high price of diesel fuel, which raises shipping costs. The diesel-gasoline spread in NY Harbor is at a high for the year. Some of this is seasonal. More gasoline is refined during the summer driving season, but the US is a net exporter of diesel, and this has increased with shortages in Europe. What some will think is a local market for a product is actually a global market.

Regardless of crude price, there is no simple switch that can increase diesel fuel without changing the quantity of other products. If firms are allowed to export, the product will move to the location with the greatest demand; so if Russian refined product cannot reach Europe and Arab refining is limited because of the Strait of Hormuz closure, the product will come from the US and affect local prices. 

Partial knowledge versus full knowledge and storytelling

Partial knowledge is more often victorious than full knowledge; it conceives things simpler than they are and therefore makes its opinion easier to grasp and more persuasive. - Nietzsche 

Information overload exists. We don't want too much information because it gets in the way of the facts needed for a good story. Hence, there is an optimal amount of information: discard facts that aren't needed to tell a coherent story; yet if we have too few facts, we may miss what's critical. 

Good decisions always start with: Do I have the right information? Do I have enough information? What will I do with the extra information? Am I being too simplistic? Am I making the problem too complex? 

Back to basics on efficient frontier- it is not stable

 

The efficient frontier should be a well-defined curve when we have uncorrelated or negatively correlated assets such as stocks and bonds for the period 1986-2020, yet in the more recent post-pandemic period, it looks almost like a straight line. Investors have less risk as you move away from 100% stocks, but it is at the expense of return. Give up return by giving up risk in a nice linear fashion. Bonds have not been a good investment, and the spread between stocks and bonds is at an all-time high. One could argue that this is not the time to increase stock exposure, but it is clear that those who followed the simple stock-bond allocation mix would have been disadvantaged.

The textbook trade-offs that we would like to see do not usually exist over short but meaningful time periods.

Saying good-bye to Treasury as a safe asset

Treasuries have been a safe asset, but it’s unclear whether they still are. A safe asset means that investors will pay a premium to hold it, so there is a convenience yield between it and the next safest asset. Treasuries will trade at a lower yield than AAA-rated bonds. This convenience yield is time-varying. It will change with the business cycle and market fragility. A crisis or recession will lead to higher convenience yields. Similarly, if safe-asset supply increases relative to demand, the convenience yield will decline. Ultimately, perceptions of safety matter. Treasuries are safe because they are viewed as safe relative to other alternatives. The structure and liquidity of the safe asset affect this perception.

Unfortunately, convenience yields have collapsed and are showing no safety premium. This is consistent with a positive stock-bond correlation. Safety from Treasuries relative to the risky asset is limited, given they are moving in the same direction. This is more than a correlation story, so investors should take note of the fall in convenience yield.