We can point to fundamental reasons for oil weakness. Those are ...
- Rising oil production in the U.S. and other regions (Libya, Iraq, etc.).
- Economic weakness in China. The latest is that China's CPI came in weaker than expected (1.6% vs expectations of 1.7%). That's adding to disinflation worries.
- Weakness in Europe, which is ground zero for deflation and slowdown concerns
- The International Energy Agency keeps cutting its estimates for growth in global oil demand. It has now cut demand estimates for four months in a row.
But there is also a political component to the oil price crunch. And that is, the Organization of Petroleum Exporting Countries (OPEC) is starting to fracture. I'll have more on this in an InvestmentU.com story later this week. But the Cliff's Notes version is that despite falling prices, OPEC increased its oil production last month to a 13-month high. At the same time, Saudi Arabia is cutting prices to retain market share. Iraq and Iran are also cutting prices to keep market share.
All this is driving the price of Brent Crude, the international oil benchmark, lower and lower. It's down around 23% year-to-date, dropping from $113 to below $84 briefly this morning.
The Saudis don't like lower prices, but they know they can bear them better than higher-price producers like Canadian oil sands or Russia.
In the meantime, OPEC members like Venezuela are shouting LOUDLY for an emergency meeting to prop up oil prices. The Saudis -- who have been stabbed in the back by the Venezuelans enough times that they should have a whole set of steak knives by now -- are saying "too bad."
That doesn't bode well for the future of the cartel. I know, I know -- it couldn't happen to a nicer bunch, right?
So here's the question. If there is a political component to the oil price, what does this mean for the falling price of U.S. oil?
It means that the fall in U.S. oil prices is more in sympathy to the move in Brent crude. It's NOT because the U.S. economy is slowing.
In fact, domestic U.S. oil demand is sitting near all-time highs.
So is this move in U.S. oil companies overdone? If they can make a profit at current prices, or at least at $70 a barrel or so (probably as low as we'll see WTI crude go), then yes, they are being priced for a disaster that is not going to happen. Not unless Godzilla is moving toward San Francisco right now and nobody told me.
Now, that doesn't prevent me from having a position in ProShares UltraShort Oil & Gas (NYSE: DUG) in Gold & Resource Trader. It's our second time holding it, we got into it early, and while we took partial gains, we'll hold the rest for the wild ride that is probably ahead.
But my analysis which I've just shared with you also prevents me from panicking. It's not the end of the oil boom story. It's maybe the end of a chapter. A new one is beginning.
News and Links of Interest
Estimate of Global Oil Demand Growth Cut Again. Global oil consumption will increase by about 650,000 barrels a day this year to an average 92.7 million a day, according to the IEA, which advises 29 nations on energy policy. The estimate for demand growth is 250,000 barrels a day lower than last month’s forecast, and about half the level the agency projected in June.
Commodity Price Drop Gives Fed Additional Breathing Room. Goldman Sachs economists last week estimated the combined effects of a weak dollar and soft commodities prices would shave 0.2 of a percentage point off core inflation next year, pushing against the Fed’s efforts to lift already-low inflation up to its 2% target. Senior Fed officials have signaled pretty clearly in the past few weeks that they’re looking at mid-2015 for liftoff from near-zero interest rates. The confluence of developments weighing on inflation is dampening the urgency in that discussion. (Source)
Global Oil Glut Sends Prices Plunging. The good news: Every one-cent drop in gas prices means a $1 billion annual decline in energy spending by Americans, estimates Brett Ryan, U.S. economist at Deutsche Bank. “It’s like a tax cut that consumers can use to eat out more often, buy more goods or help save for a new home,” he said. (Source)
Lockheed makes breakthrough on fusion energy project. On Wednesday LMT said it had made a technological breakthrough in developing a power source based on nuclear fusion, and the first reactors, small enough to fit on the back of a truck, could be ready for use in a decade. (Source)
Retail Sales in U.S. Dropped More Than Forecast in September. Wages remain low, which means people aren't spending. (Source)
Crumbling U.S. Fix Seen With Global Trillions of Dollars. Another public-private partnership. Every $1 billion in new infrastructure investment creates about 18,000 jobs, according to a 2009 report by economists at the University of Massachusetts’ Political Economy Research Institute. (Source)
They saved the eurozone; they just forgot to save the people. Eurozone officials have preached a gospel of budget austerity and "structural reform" to ailing economies as the cure for the crisis. The eurozone has ten countries — including big ones like France, Italy, and Spain — that are doing worse than Rhode Island. Greece has 11 million people — making it more than 10 times the size of Rhode Island — and an unemployment rate of almost 27 percent. Meanwhile, Finland is considered one of the healthy eurozone economies but only Nevada and Rhode Island have unemployment rates higher than Finland's, and they're close. (Source)
See also: EU Austerity Witch Doctors Attack Each Other
Economists are increasingly worried that Europe is going to drop into deflation. Here are the latest deflation figures from Europe, for September.
- Italy: -0.1%. Italy is in its second month of deflation
- Spain: -0.3%. Spain has the most serious deflation of any large eurozone economy; it's in its third consecutive month
- Germany: 0.8%. The fact that Germany has some of the highest inflation in the eurozone tells you a lot.
- France: 0.4%. A five-year low. Core inflation is actually now at zero, the lowest in modern history.
- The UK: 1.2%. The UK isn't in the eurozone, but inflation is also at a five-year low.
Good luck today.