You’ve seen the charts on oil, and they are grim. Oil fell over 10% after OPEC announced they were not cutting production, and this is after an already dramatic drop since July.
Some people are saying it’s all supply related – that we have a glut of oil now (or maybe a glut of high priced oil). Others insist its all demand reltated – that the recession in Europe coupled with “only” 7% growth in China is enough to push oil lower.
But there has to be some speculative unwind here. The fall is too large, too fast. There is no new information in the market we didn’t have last year about supply – it’s been long known the world was able to supply a large amount of oil at $100/barrel. And while demand is slowing, should this result in a 30-40% price drop?
I suspect over the next year we are going to see a new price equilibrium of $60-70/barrel oil, even after China and emerging markets pull out of their moderate slump. And we’re going to have to deal with the odd fact of lower oil prices.
One of the answers to this is there has been a large speculative bid in oil predicated on higher inflation which has never materialized, a bid which cannot stand a few months of lower oil prices. As this unwinds, we could see some very low prints in oil, and the new price regime could be quite low.