Oil Slips and and Slides Below US$52 Per Barrel

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MELBOURNE, AUSTRALIA 12 January 2007 – We haven’t seen the full speech, nor have we read the transcript, but even so we think we can make a pretty good fist of paraphrasing George W. Bush’s new strategy on Iraq.  Our guess is that it was something like this, “We made a mistake, er, so we are going to send in more troops.  Goodnight.”

Despite this nonsense the markets continue on their way.  Have we now reached the point where the markets are now immune to anything that happens in the middle-east?  To some degree.  As long as the conflict remains isolated to the middle-east, there is little for most economies to worry about.

Middle-Eastern countries neither make up a significant proportion of consumers and neither to they make up a significant proportion of manufacturers of anything either.  They only have one thing that the West wants and at the moment the supply of oil is running ok.  Of course we know that could change at any moment.  But for now, no-one cares, the oil flows and the price of crude continues to ease.

Not for long though perhaps.  In the past we have questioned OPEC’s ability to influence the oil price given the tightness of supply, the surging demand from Asia and the willingness of Russia to pump as much oil as it wants.  Oh, and their seeming inability to agree on what is a suitable and sustainable level of production and what is a reasonable oil price.  A price at which the West can cope with.

Current OPEC president and United Arab Emirates oil minister, Mohamed al-Hamli told Bloomberg News that, “It’s very difficult to have 100 percent compliance, but we need to make the cuts that we have agreed.”  He went on, “We can’t control the weather in the US.  We need to see what impact the February cuts will have on the market.”

It isn’t surprising that they are disappointed, the price of crude oil has dropped by around USD$6 per barrel during the last couple of weeks.  OPEC has been walking a tightrope faced with the desire to produce as much oil as they can without it having a downward impact on the oil price.

Unfortunately for them, the milder North American weather has taken some of the control out of their hands.  Chances are that if the crude price stays around this level they will seriously have to consider a decision to cut at their March meeting.  If the unthinkable happens and crude starts to slip below USD$50 then the odds on a further cut would be unbackable.

Could we really see oil slip and slide down to pre-Iraq War levels of USD$30 per barrel or less?

For fear of sounding like a broken record, regardless of what is happening with the Middle-East there are still plenty of other potential hiccups on the horizon.  Not least Russia’s heavy handed tactics with it’s former Eastern Bloc allies, and Venezuela’s Hugo Chavez with his own brand of South American communism.

And none of these potential problems look like disappearing anytime soon.  Chavez has been sworn in as president for another six years and Russian ambivalence to diplomacy is not likely to change either, whether Vladimir Putin is there or whether it is another ex-KGB cohort.

The fact is that despite the falling oil price there is still plenty of uncertainty in the markets.  One only has to look at the performance of the major – and minor – resource stocks this week to see that.

BHP Billiton (ASX: BHP) and Rio Tinto (ASX: RIO) have been up and down more times than the lift operators in Myer.  The fundamentals would seem to be pretty clear that the demand for resources, whether it is oil or copper or iron ore or nickel can only continue in an upward direction over the next few years.

The question that the market is trying to answer, and so far unsuccessfully, is whether stocks and commodities have moved ahead of themselves too soon.  Could this be the hiatus before a further push ahead as fundamentals reassert themselves?  We shall see.

Kris Sayce
Kris Sayce, dubbed the ‘Jeremy Clarkson of Australian finance’, began as a London finance broker specialising in small-cap stock analysis on London’s Alternative Investment Market (AIM). Kris then spent several years at one of Australia's leading wealth management firms. A fully accredited advisor in shares, options, warrants and foreign-exchange investments, Kris was instrumental in helping to establish the Australian version of the Daily Reckoning e-newsletter in 2005. He is currently the Publisher, Investment Director and Editor in Chief of Australia's most outspoken financial news service — Money Morning.
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