Crude Oil Prices : The Seamless Web

By: Andrew_McKillop

As brokers and traders firstly tiptoe, then stampede out of both commodities and equities in programmed ritual lockstep when the warning signals of slower growth, higher debt, weaker money and more jobless persons flash deeper red we find more, clear, real-time proof what has happened to the financial space today. Commodities and equities are simply two facets of the same asset space. That single space is under heavy attack from reality but oil breakout on the upside, and equities on the downside is a new leading sign of that attack.

Since around 23 June, hefty declines in oil on New York and London trading, with rallies anytime the reality of structural undersupply is too hard to ignore, dovetail with European, US and Japanese debt financing news and how this trickles down like acid to the real economy, far below. Anytime the US Federal Reserve lowers its economic growth outlook for the world’s biggest crude-consuming nation oil prices must tank before rallying. In the real world of similarly debt-wracked Europe, countries such as Greece, Ireland, Portugal and Spain have cut oil consumption as much as 15 percent since 2007 but these are not yet the big consumers. Their oil demand can in fact be expected to claw back up, promising more demand-side driven price rallies on the right news.

Why the sky-high premium ?
Brent/WTI premiums or spreads remain extreme, showing by its present level, often nudging $18 a barrel, the heavyweight fundamental of Brent tracking Asia's growing demand as well as Europe's falling oil demand, relative to WTI which only traces the USA's unsure rebound of oil demand. Fed governors and regional-bank presidents now say the U.S. economy will expand by perhaps 2.4 to 2.6 percent this year, down from April’s forecasts as high as 3.3 percent, based on median range projections. Forward growth in 2012 stays resolutely Harry Potter, ranging up to 4 percent, perhaps on the hope Obama will disappear and usher a new Ronald Reagan to the helm, or produce more generous easing but these fantasy forecasts are slipping, compared with forecasts by the US Fed, as recent as April projecting even higher numbers, over 4 percent GDP growth in 2012.

On the jobless front only bad news trickles down. Until late May, US forecasters along with the Fed could look forward to an unemployment rate able to be dragged down to 8.5 percent or less by the end of 2011. Today, these are Happy Changey forecasts, given the reality crowding in of US Federal debt debt ceiling negotiations at close to 100% of GDP, $ 14 300 billion, equivalent to so many years of covering all US oil imports at a barrel price of $ 100 that the numbers fall off the page. Rising debt and unemployment are nicely correlated: to be sure this truth is unpalatable but it lends credibility to the sky high premium on Brent.

Oil Inventories, weather and political intrigue
Anytime necessary, fractional changes in US crude stockpiles from a long-term average around 365 million barrels can merit trading initiatives, up or down, but the actual or underlying weekly changes can be so weak they merit disinterest. In a week, stocks at Cushing OK, the basing point for US Nymex physical deliveries, could decline as much as 2 million barrels but might rise as much as 0.3 million barrels, giving a nice idea of usual trends. The stocks picture is however complicated by refined product stock changes for products like heating oil and diesel fuel which, in a week, could rise more than 1 million barrels. Whenever they also decline, the high price oil wolf is a lot closer to the door than if only crude oil stocks decline.

As the IEA's June market report showed, its 28 OECD member countries were consuming a day average of 45.18 million barrels in April, with OECD-wide oil stocks of 2.67 billion barrels - equivalent to 59.1 days average consumption. Outside the OECD, the stock/demand ratio is much lower reflecting the fundamental story of limited growth for crude supply, limited stock builds, and growing demand anytime jobless numbers fall and anywhere economic growth stays strong. Mixed with geopolitical news from over the horizon and weather news closer to the horizon, oil prices have more than a coin-flip chance of rising. Even an event like the coming of a new oil state - South Sudan - could be double headed: working with, instead of against northern muslim Sudan, the new christian oil exporter could decide that higher oil prices at northern refineries and export terminals are not only good for the revenues it badly needs but are also good for keeping both parties from renewed fighting.

New fundamentals
Anytime equities rise and the US dollar's world value declines, as it usually does, betting on a decline in oil prices is like betting Obama will be automatically re-elected in the same way as Nixon, Carter or George Bush father. You can say it, but it is not true.  Better to play the real fundamentals - which say commodities and equities rise and fall in a twin spiral, like ADN strands, and oil prices have upside breakout potential in the current and emerging context.

Something is changing out there in the financial space. For oil, and gold also, the most menacing new trend is when equities crumple like overpriced vanity assets but the oil price, or gold prices grow. This breaking of the twin helix of commodities and equities is a harbinger of change in the financial space and certainly reflects real fundamentals, both global macro and geopolitical. These new fundamentals may be complex, and their exact type and form may still be unsure, but they are coming.

The global debt casino has reached far extremes by the nominal value of the chips placed on its spinning wheels, so extreme that like the creation of Southern Sudan and a possible rise in oil prices trumping expectations for a fall, what should be a signal for falling oil demand in debt-wracked countries may turn around in an unexpected way. The reason and the trigger for this process will be rising inflation, logical and expected but not yet in the numbers, with a quick and sure boost to gold and oil prices - but not equities.

By Andrew McKillop

Contact: xtran9@gmail.com

Former chief policy analyst, Division A Policy, DG XVII Energy, European Commission. Andrew McKillop Biographic Highlights

Andrew McKillop has more than 30 years experience in the energy, economic and finance domains. Trained at London UK’s University College, he has had specially long experience of energy policy, project administration and the development and financing of alternate energy. This included his role of in-house Expert on Policy and Programming at the DG XVII-Energy of the European Commission, Director of Information of the OAPEC technology transfer subsidiary, AREC and researcher for UN agencies including the ILO.

© 2011 Copyright Andrew McKillop - 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.

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