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Crude Oil Goes SuperNova, $115, $150, $200, Implications for Inflation

Commodities / Crude Oil Feb 24, 2011 - 04:58 AM GMT

By: Nadeem_Walayat

Commodities

Best Financial Markets Analysis ArticleThe inflation forecast for 2011 warned that the key risks to the forecast were all to the upside and specifically if Crude oil were to go super nova during 2011, subsequent events starting in Tunisia, magnifying in Egypt and now exploding in Libya have sent crude oil prices soaring into the stratosphere as speculators pile into a panic sparked trend, where Brent Crude has now spiked higher to $115 on the spot market, up $40 from the recent trading range of $75 and leaving the US WTI Crude presently lagging behind at $101.


Brent Crude oil of $115 if sustained would translate into an inflation rate of CPI 5%+ as prices at the pumps are ratcheted higher by at least 7p per litre, however the explosion taking place in the middle east appears to be just beginning as the freedom storm turns to the oil rich gulf states with the mafia dictatorship of Saudi Arabia at its head. However it is not necessary for the these mafia chiefdoms to actually collapse, rather the risk alone is enough for speculators to pile in and producers hoard crude oil in lieu of higher future prices, that could send the crude oil prices soaring to first break the 2008 $150 peak and then target a break of $200 amidst a short-lived mega-spike.

Whilst it is not possible to forecast where crude oil prices will exactly peak, however it is possible to estimate where Brent crude of $150 would translate into an UK CPI Inflation rate of 6%, and $200 of 7.5%, especially given the fact that Sterling today is much lower than where it was during the Commodity spike of mid 2008 as the below graph illustrates that crude oil in sterling is already within touching distance of its all time 2008 high rather than which is suggested by the dollar price that the mainstream press mistakenly exclusively focuses upon.

The above graph shows a tendency for crude oil prices (in sterling) to act as a leading indicator for UK inflation of between 6 and 18 months. With normal expectations for a lead of between 6-12 months, depending on the overall state of the economy, which given that the UK economy is in a slow recovery mode then the tendency will pull the lead against UK inflation nearer towards 6 months. The strong trend higher in crude oil during 2009 has resulted in high UK inflation throughout 2010. The current surge in sterling crude oil prices, even if it succumbs to some profit taking in the short-term looks set to translate in a summer UK CPI inflation rate of 5%+.

UK CPI Inflation at 5%+ would make a mockery of the deflation fools that populate the Bank of England's Monetary Policy Committee that have mistakenly beaten the deflation drum for the whole of 2010 and into 2011. Inflation of 5%+ would put increasing upward pressure on UK Interest rates as the markets would force the Bank of England to raise interest rates so as to continue to service a still huge government budget deficit via the bond markets that targets £120 billion for 2011-2012. Therefore the outcome as I first voiced over 6 months ago (26 Aug 2010 - Deflation Delusion Continues as Economies Trend Towards High Inflation ) would start to manifest itself in that the Bank of England would both raise interest rates AND print money so as to monetize government debt as the market interest rates would otherwise have to be far higher than what has been an increasingly irrelevant base interest rate would imply i.e. above 4% for 10 year gilts.

UK Inflation Forecast 2011

The updated in-depth analysis and forecast for UK inflation for 2011 (17 Jan 2011 - UK Inflation Forecast 2011, Imminent Spike to Above CPI 4%, RPI 6% ) concluded in UK inflation spiking to a high of 4.2% early 2011, and thereafter trend lower towards 3% by the end of 2011 and therefore remaining above the Bank of England's 3% upper limit for the whole of 2011. The Bank of England's most recent Inflation Report forecast UK CPI of 2.3% (1.7%) by the end of 2011, however the BoE had forecast UK CPI of just 1% by the end of 2010 (Feb 2010), which is inline with the Bank of England's permanent mantra of near always imminent deflation threat so as to better manage the populations inflation expectations in their favour.

UK Inflation Forecast 2011

The implications for UK interest rates will be covered in a imminently to be completed in depth analysis and concluding UK interest rate forecast for 2011, ensure you are subscribed to my always free newsletter to get this analysis and forecast in your email in box.

Comments and Source: http://www.marketoracle.co.uk/Article26507.html

By Nadeem Walayat

http://www.marketoracle.co.uk

Copyright © 2005-11 Marketoracle.co.uk (Market Oracle Ltd). All rights reserved.

Nadeem Walayat has over 20 years experience of trading derivatives, portfolio management and analysing the financial markets, including one of few who both anticipated and Beat the 1987 Crash. Nadeem's forward looking analysis specialises on UK inflation, economy, interest rates and the housing market and he is the author of the NEW Inflation Mega-Trend ebook that can be downloaded for Free. Nadeem is the Editor of The Market Oracle, a FREE Daily Financial Markets Analysis & Forecasting online publication. We present in-depth analysis from over 600 experienced analysts on a range of views of the probable direction of the financial markets. Thus enabling our readers to arrive at an informed opinion on future market direction. http://www.marketoracle.co.uk

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 trading losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors before engaging in any trading activities.

Nadeem Walayat Archive

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


Comments

SC
24 Feb 11, 11:50
Risk in not having an hedge

Nadeem,

So far we've seen the oil spike have an inverse effect on the agricultural commodity prices. Were this to continue will oil really have an inflationary effect ,or will it be offset.That is ,will it's inflationary impact have a deflationary impact elsewhere?

The problem as I see it is we don't know where this will go because we can't foretell how events will unfold from here. However, the evnts in motion at the momonet don't look to be of the type that are quickly resolved so a high level of uncertainty appears to be with us for some time. So my view is can we afford not to have some positio that at least hedges the inflation issue.

Oil itself via an ETF is just too volatile for my Sipp so I've contented myself with adding to the psotion I was already carrying in Indexed Linked Gilts plus a fund heavily geared to global oil companies.

I don't see how we can ignore the risks at this point.


Ken
24 Feb 11, 12:01
US Inflation

NW,

Do you have any thoughts on US interest rates?

Following has been from news article that piqued my interest:

For the US, perhaps the greatest implication of an end to Bernanke’s string of QE programs caused by higher inflation and lower unemployment rates would be to finally see how strong the patient (the US economy) is once the life support (monetary policy) is removed. While small businesses are finally hiring once again, the trend in hiring will not only have to continue but accelerate as job seekers come back to the market looking for jobs if the US economic expansion is to continue. The ultra-easy policy of the US Fed has been hurting the global economy through higher commodity prices from a weakened US currency, and now these higher commodity prices felt first in developing economies are pouring back into the US through rising import inflation. If the Fed is unable to launch a third QE program come June when QE2 ends, then the current economic expansion will come face to face with its first true test as the second half of 2011 will likely showcase another growth scare even more pronounced than what was seen in the middle of 2010. The bull market that began in March 2009 will also be faced with another test and should provide clues to the economy well in advance. The S&P 500 peaked in November 2007 and never looked back, peaking one month before the onset of the last recession that began in December 2007. While the economy and markets were tested last summer and were saved by the Fed, this time around the Fed may not be able to come to the rescue riding the QE horse with rampant inflation. As always, time will tell.


Nadeem_Walayat
25 Feb 11, 09:02
Oil risks

Hi SC

Yes there will be deflationary ripples, but they are on top of a ocean of inflation.

Best

NW


Nadeem_Walayat
25 Feb 11, 09:05
US Interest rates

Hi Ken

There are no borders to money flow, as us money printing flows are ending up in the east so will eastern inflation end up in the US.

The whole world is printing money, as all currencies are in freefall against one another, where exchanges rates just show the volatility in the differing rates of free fall.

US money market interest rates have already started to rise.


Udit
28 Feb 11, 14:03
UK - QE & Base Rate

Hi Nadeem

In your note dated 24th Feb 2011 (Crude Oil Goes SuperNova, $115, $150, $200, Implications for Inflation) you have stated 'Bank of England would both raise interest rates AND print money so as to monetize government debt'. As far as the inflation is concerned, if the BoE simultaneously takes these actions, it should have no effect i.e. in theory higher rates should bring down inflation and more QE should be inflationary.

Can you please explain how the BOE would be able to justify this to the market when the inflation is so high and seems to be going up even more in the months ahead (also shown in your own projections)?

Regards

Udit


Nadeem_Walayat
28 Feb 11, 14:08
UK rates

Hi

The UK interest rate forecast answers the above and plenty more, which I will be posting / emailing out this week once I have edited down by about a 1/3rd.

Best

NW


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