The Week of February 28th: Crude is Rude

The number one question that needs answering to assess the strength of the markets going into March is whether the bulls have enough steam to outweigh the strengthening oil prices. It seems that the situation in Libya is ever worsening, and there are cries of genocide coming from within the country. Gaddafi doesn’t seem to be the type of nut who will give up until the last bullet has been shot, and until the last fragments of his armed forces still back him in the calculated massacre of his own people. Newswires are primarily concentrating on the threats of contagion, and it certainly does not seem irrational to expect oil to be making a run for $110 a barrel in the coming week.

The actual supply side situation as it stands seems to be pretty stable in the context of oil. The two biggest users of oil energy; the US and China have enough reserves to see out this Libya situation until it resolves out of its own volition. There are question marks over whether the disenchantment with the regimes in place in Qatar, Bahrain, and most importantly Saudi Arabia is going to escalate into full fledged national revolutions. The Saudis, with the largest oil reserves in the world, are definitely not taking any chances, and King Abdullah has announced a stimulus of $36 billion. This stimulus plan is definitely not inspired by Keynes, and has been issued as a pacifying force for the people of Saudi Arabia who may be on the verge of contemplating revolution. This stimulus includes provisions for interest free loans, unemployment benefits and debt forgiveness.

American equities exhibited a strong inverse correlation with oil prices for the last two weeks, and validly so. Even though there has been a barrage of better than expected data coming out of the US, markets have not rallied strongly, though the S&P 500 is managing to stay above its key psychological level of 1300 with some determination. The daily charts indicate a consolidation phase such as the one seen in November before a rally up to 1350. If however, the 1320 level does not hold during the initial phases of next week, the momentum towards the downside could shake the confidence of some of the shorter term speculators looking to get in at discounted prices.  There is going to be some added volatility due to the expiration of March futures contracts for the S&P, and the most likely scenario is that the market is going to repeat its behaviour exhibited over the last week.

It is strange to think that oil had ever been at $20 a barrel, when there is speculation of oil prices touching $200 within a few years if not less. The readiness of emerging markets to tackle the coming energy crisis is disturbing. It will certainly be a crucial time for the world, and the rise in commodities in general is certainly going to move millions of more people below the poverty line, in an antithesis to the Kuznets Theory which predicts a narrowing of the income gap between the rich and the poor after the initial widening in the cycle of development.

Another crucial development that I will be following closely over the coming weeks is the weakening of the US dollar. The Eur/Dollar handle of 1.4 has been touched on the back of weaker than expected Non Farms Payrolls (though the number has been better for January than in the previous months, touching 192,000 jobs created). It is interesting that arguments questioning the safe haven status of the dollar are being made in the light of currencies like the Swiss CHF gaining solid ground on threats of contagion in the Middle East, while the dollar weakens. I think that this pattern would be crucial to watch over the next few jolts that the world has in the form of political or economic threats. What puts me in some amount of doubt about the weakness being externally created is the fact that one of the inherent objectives of quantitative easing is to make the dollar weak. 


PS... Readers of this blog might notice the sharp spike in silver prices as foretold!