Oil prices were stagnating in the $50 range about six to seven months ago and are now trading around $66. There’s several good reasons for this jump in prices with one being the US dollar continuing to lose value. Several experts are predicting that crude prices will continue to climb to the $100 range. That may come about but several things have to fall in place first for prices to rise to that level.
Oil prices are in my estimation on a secular surge higher since marking inflection point around mid-year 2017, where fortunately, I also turned bullish on the commodity via this column. Through the second half of the year, I outlined reasons why I thought oil prices would break out of their longstanding trading range, and oil followed suit, reaching my outlined goal for a +20% gain in just half a year. So, what is next for oil? Two critical factors are discussed herein, and each offer support currently.
I began forecasting an oil price turn in June of 2017 and a breakout from its trading range shortly thereafter. The United States Oil ETF, which I suggested investors buy on July 31st for +20% expected upside from there, is up approximately 29% since and still charging. The ETF is up 44% since our mid-June call to buy oil.
Now, I’ll be the first to admit to not always being right, but often enough, I see fundamental macroeconomic drivers (and others) clearly enough to make confident directional calls on asset classes and specific securities. I did so vehemently in early August 2015, foretelling of the market correction that followed, and I’ve done so on other occasions as well, like, for instance, on oil last year. But the main focus of this report is not to pat myself on the back but to highlight what is driving oil prices today. Oftentimes, it’s not what you’re being told by the popular press day to day.
The risk of the United States undoing the Iran Nuclear Deal is a pivotal factor for oil today. The evidence seems clear to me in the price action around recent events and how price momentum has run through to important changes in expectations.Before its latest surge this week, oil prices marked a top on or about Jan. 12, 2018. By no coincidence, Jan. 12 was the day when President Trump again allowed the Iran Nuclear Deal to continue without formal contention. Oil prices had run higher into the critical date after the president had warned on several prior occasions that he might move to kill the deal, at least from the United States’ perspective. Of course, other supportive data has also served oil prices through mid-January, including from those same factors we outlined for oil’s breakout, like, for instance, improving global economic health and demand for energy. But the evidence is still clear that oil is critically hinged at the moment to the Iran factor as well.
I believe we can see this in the price action this month. Oil prices drifted lower after Jan. 12, before suddenly turning sharply higher on Jan. 23rd. On that day, Vice President Pence, while in Israel, indicated that President Trump intends to end the Iran Nuclear Deal. Indeed, he was simply reiterating what the president said 10-days prior, though while leaving the deal in place for another 120 days.
But there’s another critical factor at play currently that is also not U.S. shale production, OPEC production control or economic demand relative, however critical those are as well. The U.S. dollar is getting beaten up, and so most commodities priced in dollar terms are rising in value. This same factor is serving gold and other commodities this week, as evidenced by the move in kind of the iShares Commodities Select Strategy ETF (COMT).
The dollar is getting beaten up by the euro. Recent economic data out of Europe and speculation about European Central Bank (ECB) policy are trumping similarly strong expectations about the United States. The U.S. dollar was a pillar of strength over the last several years, given a lack of better options in a global economy gone bad. So, it appears, with currency options becoming available to capital, and perhaps also because of some concern about a U.S. foreign policy shift to a more aggressive stance, money is euro-bound.
Perhaps it’s returning eastward also after being safely stored away in dollars by some parties. Whatever the case, it is causing me to reconsider the conviction behind my once bullish dollar view. I believe currency market volatility may be more pronounced as economies in the U.S. and Europe take turns producing economically bullish and monetary policy hawkish news. But that more nascent return from the dead for Europe may offer its currency greater favor here. Still, I anticipate stronger than forecast U.S. GDP growth in 2018 will help the dollar recapture relative ground when appropriate.
For now, the dollar is playing defense, and the price of oil is benefiting. With a ticking time bomb waiting to kill the Iran Nuclear Deal, until of course Europe hopefully works out an adequate alteration to it with Iran to satisfy President Trump (which is what he is seeking), then oil prices seem to have solid support for now. Other very important factors continue to favor energy demand too, first among all being synchronized global economic gains.
Saudi Arabia remains incentivized to keep oil production limited and prices lifted as it approaches the initial public offering of Saudi Aramco. And, the region of most importance, the Middle East and North Africa, remains as chaotic as ever geopolitically speaking, and so supply is as vulnerable as ever. While it appears oil heads higher from here, I will continue to keep my ear to the rail for any sign of trouble coming and will update followers.
Filed under: Commodities