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Nadeem Walayat Financial Markets Analysiis and Trend Forecasts

Crude Oil BubbleOmics $75 Fair Price, Targets Rally to $90

Commodities / Crude Oil Oct 13, 2009 - 02:34 PM GMT

By: Andrew_Butter

Commodities

Best Financial Markets Analysis ArticleA bubble is when prices go unnaturally high for a while and then they pop; what happens next is predictable (http://www.marketoracle.co.uk/Article12114.html). The recent dynamics of the oil price has followed a classic pattern:


Assuming that the “fundamental” of why people buy oil and how much they are willing (or able) to pay for it didn’t change radically over the past year, people still need to drive to work and nominal GDP in the world’s biggest customer, which determines how much they have to spend on gasoline didn’t change much, then regardless of whether you buy the estimate of other than market value, that’s a classic bubble/bust/overshoot/recovery pattern.

If you buy the valuation, then at the top of the "spike" the "correct" price for oil was $68, so when it hit $147 or so that was 116% over priced.

Then if the $68 was right according then the trough should have been (1-1/2.16) = 53% under priced at the bottom.

The pricing model says the "correct" price in early 2009 was $72 so that gets you to $33 which is pretty much on target (1%) if you buy the model and if not; well it’s in the ball-park.

Note:
By the "correct price" I am talking about the "Other-Than-Market-Value" worked out loosely using International Valuation Standards to estimate of what the price should be if the market was not in what George Soros calls "disequilibrium".

The model uses nominal GDP and the trailing average 30 Year as inputs, the logic is similar to the model used to predict the S&P bottom 1% and the stock market rally up to within 1% of Dow 10,000, (http://www.marketoracle.co.uk/Article13949.html).

It’s hard to know if it works for oil because the market is often not really a market (OPEC, wars. Embargoes…etc), although the symmetry of the recent bubble bust does add some credibility to that notion.

So why was there a bubble?
There is still a debate raging about what caused the $147 per barrel spike (or classic bubble), some say it was the hedge funds, some say it was the Saudis holding back to "milk Daisy", some say it was a Zionist plot.

My moneys on the hedge funds, i.e. a classic naked-credit- fuelled bubble and pop.

And for an encore?

First, it’s highly unlikely prices will go down much although typically the periodicity of a bust is the same as a bubble (this time about 18 months), so expect oil to head up towards $80 by April, there might be some wiggles on the way and the exact number will depend on where the 30-Year Treasury and nominal GDP of the world's largest "customer" goes.

Then who knows?

Perhaps the hedge funds on Wall Street will get their sticky fingers on some of the TARP and/or TALF money and create another bubble, perhaps there will be a war; wars are always good for the oil price.

It would be ironic if the boys on Wall Street managed to create another bubble using money from Uncle Sam, which will mean that the long-suffering and supremely tolerant US Taxpayers will end up paying through the nose twice, one shot of $700 billion for TARP and another shot for the increased oil prices.

Don't rule that out, the "shadow banking system" needs to "earn" it's way out of the last hole they dug themselves so that they can continue their essential (socially useless) “support” for the US economy (http://www.marketoracle.co.uk/Article13457.html).

But don’t expect the US Government to do anything about it either (like stop people betting naked), or pumping out of the strategic oil reserve to teach them a lesson (imagine if they had started selling that at $65 in 2007, then bought back the stuff after all the gamblers had lost their shirts – of course that would probably have meant more bail outs – zero sum). But better to let the US taxpayers pay $500 billion more for their gasoline.

But if the hedge funds can be persuaded not to create another bubble (locking them up might help), and if the US war machine can be persuaded not to invade some new hapless country or another who's un-elected despots have thumbed their noses at them, then the oil price should bubble along and quite possibly hit $90 by the end of 2010.

The point is it won't go down, the only “unforeseen” events that might happen will send it up.

By Andrew Butter

Andrew Butter is managing partner of ABMC, an investment advisory firm, based in Dubai ( hbutter@eim.ae ), that he setup in 1999, and is has been involved advising on large scale real estate investments, mainly in Dubai.

© 2009 Copyright Andrew Butter- All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Andrew Butter Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Comments

Jerome
14 Oct 09, 04:45
I love what you do but...

I really do love what you do. I do love it so much that I think importance of IVS in the future will soar. This is definitely the future.

Only think I am wondering is how to detect a bubble before it burst. Say your article about gold the other day. Everything looks fine and smart but even with the accuracy of the method, it is very hard to tell if market is forming a bubble or not.

That strikes me because when you throw a peeble into a pond it is obvious to tell if the wave formed is a natural wave triggered by the wind or by the peeble. Any idea to differentiate a bubble from a normal market wave?


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