One last "I told you so"...

While I did not formally make a prediction on oil prices this year, the same forces I've described have continued to play out: since the WTI oil market is dominated by speculators, every attempt to push prices higher ends in a collapse when inventories "unexpectedly" rise. 

In mid April, based on geopolitical issues, WTI was trending toward $70, driven by speculative bulls of course.   As inventories started rising, the bulls pulled back starting in late April.  And now, as this Wall Street Journal article suggests, oil is on the verge of a bear market, approaching $50.

Despite our president's attempt to extol the virtues of "molecules of freedom," fossil fuels, oil especially, are facing long term headwinds of green energy that will keep prices in check.  However, I doubt this will dispel the best efforts of Hedge Fund speculators to hype another oil bubble....

Good luck fellas.

Trump and the Jimmy Carter Experience

WTI oil has breached the $70 mark, the high point of my 2018 range.  As with any prediction, one can't forecast "events" that influence prices. The oil market is probably the most notorious market for having political events influence significant market moves. While the fundamentals have caused prices to move above $60, the $70 breach is a consequence of Trump's decision to abrogate the Iran nuclear deal.  This was a no-brainer to predict, as Trump is so easy to manipulate, especially for a puppet master like  Netanyahu (Iran is the big prize for Neocons and Israel).

Interestingly, there was a fairly significant rise in oil inventory last week, and if today's data show another build, then prices will be pitted between the fundamentals and the geopolitics. Fundamentals will win in the long run, but the geopolitics can wreak havoc on supply in the short run. That said, Trump's decision is going to compound the economic issues surrounding his re-election bid for 2020. I've predicted (elsewhere) that his tax cuts and spending increases near the end of the business cycle will lead to a recession toward the end of 2019.  In my view, the juiced up economy will cause the Fed to raise rates faster than expected, generating a slowdown as we move into the 2020 election cycle.  However, if the decision to rescind the Iran deal maintains oil prices above $70, higher gasoline prices will take a bite out of the tax cut stimulus.

One way (high interest rates) or another (high gas prices), the US economy is in for a slowdown when 2020 rolls around.  If this is the case, Trump might have a "Jimmy Carter experience."  In 1979, Carter appointed Paul Volcker as Chair of the Fed, and while he initially supported Volcker's policy (higher interest rates) to restrain inflation, realizing the impact would hit during the 1980 election year, he pushed Volcker to reverse policy, too late of course... 

A quick note related to the Fire post....

I just came across this Bloomberg piece, Five Charts That Explain Crude Oil's Sudden Nosedive Toward $45, which provides some charts and data on last week's oil market panic.  The charts include a look at technical analysis, showing that WTI broke through some low measures which would cause technical traders to sell; action in the options market focused on puts with strike prices of $45 and $46; and a change in the forward price structure from contango to backwardation, which they suggests shows a move from bullish to bearish sentiment.  

It should be another interesting week. Will prices break lower, or will OPEC and Wall Street be able to defend the current low?

Strange Brews in Oil

I've been trying to write about other markets, but oil just keeps pulling me back.  The price of WTI oil has traded above $50/barrel since the OPEC-Russia production agreement in early December last year.  However, despite the attempt to cut production and stabilize prices, global oil inventories have continued to rise. Global inventory (OECD countries) stocks are at an all-time high no matter how one measures them.  OECD stocks currently stand at 3.1 billion barrels and US privately held inventory is at 508 million barrels. An article from OilPrice.com, Why sub $50 oil is more likely than $70 oil, looks at comparative measures of inventory, and no matter which way you slice it, the world is drowning in oil.

As I previously argued, there are two actions taken by investors who dominate futures markets (and price determination) that will maintain the current glut of oil inventory and its persistent anchor to higher prices: first, they do not allow prices to fall to a level that will restore balance via a significant shake out of producers because they tend to pile right back in and make bets on rising prices when oil prices fall significantly--a price drop creates a good "buying opportunity;" second, the stories of "peak oil" and rising demand from China, which provided the foundation for the price peak of $140/barrel in 2008, have left a persistent hangover, a belief that prices WILL again reach those levels at some point in the near future, therefore any news that provides ammunition for the bulls creates a flood of buying, pushing prices up too quickly.

Given the continuous rise in inventory one would expect a sharp pull-back in prices any day now, however there appears to be a new force or player in the market preventing the drop.  An article in the Financial Times this morning, "In oil mystery, traders resort to 'buy the build' mantra," discusses a market phenomenon that has occurred for the past few months:

Over the last five reports US commercial crude oil stocks rose by a total of 29.6m barrels. Each weekly rise surpassed expectations. While declining immediately after each report, the price of the West Texas Intermediate oil benchmark was trading higher 20 minutes later, often accompanied by a burst of volume. WTI prices also settled higher after four of the past five releases.

This morning's EIA inventory report created a similar reaction.  The report is published at 10:30 a.m. (EST) and showed another build of 9.6 million barrels, pushing US private crude stocks up to 518 million barrels. The reaction at 10:30 was a slight drop of 10 cents per barrel; however, 25 minutes later, the price was pushed up by 40 cents to $53.41(it is currently trading close to $53).  As the FT article points out, these actions have many market traders wondering who is behind the push to keep prices afloat?  From the piece, suggested suspects:

1. Hedge Funds who hold record long positions need a burst up before they can exit without taking serious losses.
2. OPEC who has cut production and needs higher prices to support budgetary needs of various countries.
3. The possibility that the behavior has influenced other traders to follow the strategy.

I have another theory: Wall Street banks have billions of dollars in loans outstanding with US shale oil producers and prices at $40 or less was pushing many toward bankruptcy.  Between the banks and OPEC, these are two very powerful forces with interest in maintaining higher prices.  However, despite the interest in maintaining higher prices, it will not stand.  While the EIA estimates that current demand and current production will come into balance sometime in the second quarter, the pressure from oil inventories will break the market at some point.  Currently, the one-year forward rate for WTI oil is $2 higher than the spot price of $53, which is not high enough to cover storage costs.  The price drop, then, will come from either Hedge Funds bailing on their historically high long positions or holders of storage, unwilling to carry inventory at a loss, selling off their stocks. Most likely the two forces will reinforce each other.

The bottom line: there is no change in my 2017 forecast that prices will not fall below $30 nor will they rise above $70.  In fact, I believe we can tighten that range to a minimum of $40 and maximum of $60, though the chances are better they will hit the low range (very soon!) rather than the high. While it's possible the price will drop below $40, any price drop of that magnitude will simply offer the bulls another opportunity to jump back in.  The more interesting story is the long term outlook and alternative energy's impact on oil, but that's a story for another day...