Geopolitics, fundamentals and the oil price We have witnessed significant falls across most commodity prices over the past twelve months, but this has been exacerbated by the recent sell-off since June of this year. In particular, the price of oil has hit a four year low, falling approximately 28% from $US115 to $US82 a barrel (Brent basis). In this article we focus on the factors that influence the price of oil and its impact on the global economy. The reasons for the price fall cannot be explained by any one fundamental factor. The concerns surrounding the economic growth slowdown in Europe could be an influence impacting demand. Furthermore, the additional supply from Saudi Arabia and rapidly growing US shale oil supply may be another reason for the weakness. Geopolitical supply risk concerns with respect to ISIS and the Russia Ukraine conflict appear to have also diminished. Speculative short-selling activity could be another factor that is contributing to the price weakness. The chart below illustrates the extent and the swiftness of the oil price fall in recent months. However, the other interesting aspect of the chart above is the price at which the government budgets of oil producing nations are impacted. At current prices, the majority are not generating or adding to their fiscal surpluses. The Wall Street Journal recently reported… “At $70 a barrel, there will be panic in OPEC. We have become used to living with $100 a barrel,” said one OPEC official. Were prices to fall to “$70 a barrel, there will be action from OPEC,” according to another OPEC official. OPEC Secretary-General Abdullah al-Badri said fundamental factors do not justify the sharp drop in oil prices. “We are concerned but we are not panicking,” al- Badri said. “We don’t see that much of a change in fundamentals. The decline is 28%, it’s a little bit too much,” he said, adding OPEC was evaluating the situation to gauge how events might develop. OPEC producing countries account for a significant portion of global oil supply and they are meeting on the 27th of November. Ausbil expects OPEC to cut oil production at or leading into this meeting. As a consequence we believe that this will be supportive for prices and there is limited downside risk from current prices. The weakening oil price also adds another interesting element to the global GDP growth outlook scenario. Research from the IMF and UBS has suggested that a weaker oil price could benefit global GDP growth and in particular a number of countries in the Eurozone and Emerging Markets, including China. The increasing amount of shale oil supply in the US also means their economy is less sensitive to changes in the oil price. The IMF research suggests a 10% change in the oil price equates to around 0.2% GDP growth impact. In addition, UBS research of the potential impact, suggests that a permanent $15 fall in the oil price would also be positive for various regions after one year to the extent illustrated in the chart below: At face value, the weak oil price may suggest low demand and low global GDP growth. However, the fundamental factors that drive the oil price are never straightforward and the likelihood is that the price will find support at current levels. We do not expect the oil price to recover dramatically in the near term and this augurs well for global growth leading into 2015. Weekly Indices: The Australian All Ordinaries Index has decreasing by -0.3% since closing last Friday to 01:50 pm today. The rest of the world as measured by the MSCI index increased +0.5% from closing last Friday to end of trade Thursday.
Posted on: Fri, 28 Nov 2014 04:02:11 +0000
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