Since 2009, analysts have found it more and more difficult to explain oil price movements. They would like to believe these are driven by the fundamentals of supply and demand. But this is clearly not the case. Inventories all around the world are comfortable. Equally, supply continues to expand whilst demand growth is weak.
They thus try to explain them by reference to special circumstances:
• From 2009, it was the idea of insatiable Chinese demand
• Then it was the risk of major Libyan supply disruption
• Recently, it has been the threat that Israel will bomb Iran
The first two have already been revealed as 'toothless wonders'. China's demand growth is very slow. Equally, the allies ensured Libyan supply was not seriously interrupted during the overthrow of the Gadaffi regime.
Now, the Iran risk has been removed, at least until after the US election. Speaking last week at the UN, premier Netanyahu accepted that its nuclear ambitions were not yet irreversible. And he agreed to allow more time for economic sanctions to work.
Thus there is only one possible cause left to explain today's high price levels, namely the impact of the central banks' liquidity programmes. As the chart shows, these took financial market prices higher each time they were launched, due to the one-way financial flows they created. Oil prices:
• Last year were a record annual level of $111/bbl
• Have been at record levels this year in euro terms at €95/bbl
• For transport fuel are now close to record levels in China
High oil prices, above 5% of global GDP today, inevitably lead to recession, as the blog discussed last week.
It may therefore be significant that prices have struggled to move higher recently, despite the launch of QE3 by the US Fed and the ECB's new liquidity promise. The downward revision in US Q2 GDP, to just 1.3%, is an ominous sign.
'Don't fight the Fed' is normally good advice for speculators in financial markets. But real investors know that, in the end, the fundamentals of supply and demand will have a more lasting impact.
Benchmark price movements since the IeC Downturn Monitor's 29 April 2011 launch, with latest ICIS pricing comments, are below:
PTA China, red, down 20%. "Prices declined because of weak buying interest, lower PTA futures and bearish market outlook"
HDPE USA export, purple, down 12%. "Prices were expected to fall in October, as domestic demand weakens and the US faces more competition from Asian producers in the Latin American market"
Naphtha Europe, brown, down 13%. "Despite the refinery maintenance season and unplanned outages, supply continues to outweigh demand"
Brent crude oil, blue, down 11%
Benzene NWE, green, down 3%. "A key driver of the downward movement on benzene has been a drop in oil prices"
S&P 500 Index (pink) up 6%