Reasons to expect a lower oil price

Reasons to expect a lower oil price

17 October 2019 from Mikael Syding

Despite the oil tanker hijacking and Turkish offensive against Syria, the WTI price stands at just over $ 54 per barrel. Last week the price was temporarily below $ 52, which was near the bottom in June and August. Does this mean that the oil price may have bottomed out and can now aim significantly higher? That's not certain.

Although the oil has reacted with a slightly higher price to the recent unrest, the rule this year
has otherwise been seemingly illogical "reverse reactions" to stock data and macroeconomic or
geopolitical information. For example, low inventory figures have often resulted in lower prices
instead of higher ones, although normally high inventory figures indicate weak demand and the
need to dump oil when there is no storage space. And concerns in the Middle East have often
resulted in lower prices instead of higher ones, often as a result of the fact that if the price does
not respond so much to the news, the market is trying to trade elsewhere.

It follows the same pattern that has been established in the stock market for several years,
where weak data has often given positive reactions and vice versa. Shares rise on weak data
because the central banks have clearly shown that they always respond with lower interest
rates and bond purchases, leading to increased liquidity for share purchases while discounting
rates in valuation calculations fall. This absolutely does not mean that the market is stupid or
wrong, just that the underlying logic is different from the intuitive First Level analysis, or
incremental analysis that only takes marginal information into account rather than zooming out
to the overall picture.

In the past, OPEC had more discipline and more pricing power. In addition, the United States
was a major oil importer, but is now the world's largest oil producer, as well as a major exporter.
Cheap financing and increasingly better technology for extracting shale oil, as well as a growing (albeit from a low level) solar energy industry, also help to lower the equilibrium price of oil. Even more important than desktop analysis of fundamentals seems to be the signal value of reactions to, for example, the attack on Abqaiq, where the market showed that not even knocking out 5 percent of the world's oil-processing capacity is enough to raise oil prices for more than a few days.

Over the past 5-10 years, the oil price has fallen from the historic peaks in 2008-2014, despite
huge monetary and fiscal stimulus programs and sharply higher prices for equities and bonds.
Obviously, oil prices are not moving in the same direction, this could be because low interest rates can finance more oil production capacity, and partly because weak data drives higher stock prices, and weak data means lower oil demand. The signals from the world's central banks and politicians are that we will see even more of the same measures that have given rising stock prices and falling oil prices. For example, this year the Fed has turned from tightening to interest
rate cuts and renewed bond purchases, and the ECB recently lowered its interest rate to -0.5%
and a new QE program from November.

Finally, it seems that the dollar will continue to strengthen, which all else means lower oil prices
in dollars. Not least is the positive interest rate differential against the rest of the world, as well
as signs of dollar shortages in the euro-dollar system, driving the upturn. Precisely the
co-variation between oil and the dollar is logically on the first level, so there is at least a
relatively simple argument for falling oil prices in the coming year.

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27/01/2021 04:49:57


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