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The future of Crude Oil

Written by A Forex View From Afar on Tuesday, June 24, 2008

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Everyone is talking about the oil prices, with questions like; how long can prices remain so high, and, what is the next move a trader should do? Here is my view on the energy market. I like simple things, going back to basic stuff like supply and demand and future expectations. The spot price for the oil market can be a good estimate for the current supply and demand, as it is for any other market, but when it comes to future expectations, my thoughts are not too positive for crude oil.

Crude oil had an awesome year, gaining more then 100% from last May. Here are some factors that contributed to this appreciation;

1. Supply and demand: even if US consumption slows, emerging countries will keep their demand high;

The demand side in emerging countries was generally put on the Chinese shoulders. Well, Chinese officials are trying to curb their strong demand that has recently forced energy and raw materials prices to go up, probably having a quick affect on China’s fuel burning. Add to the above today’s US Consumer Confidence report, which had the lowest read in the last 15 years, while consumer expectations just recorded the lowest read since 1967. This wraps as gloomy an outlook for oil demand as we have seen for a while, especially in the U.S. which seems to have been affected by the $4 per gallon gas price.

2. Weak dollar: as the dollar traded lower against the euro (mostly), crude oil gained, as it has a reverse correlation with oil prices;

The weak dollar won’t be here too long. It’s pretty clear the dollar index formed a solid base at the 71.00 area, and not looking able to break lower. The Fed will probably raise a couple of times this year, thus empowering the dollar. A stronger dollar is something the Euro-area officials want to see. A stronger dollar would automatically lead to oil trading lower.

3. Blame it on the Nigerians or Chinese: every time crude oil starts to trend lower, something happens in Nigeria. The Chinese have been Olympic stock-piling

On the Nigerian problems my only though is, how long can the rebels keep attacking the same pipelines in the same regions every time without something being done? What happens once the world spotlight comes off China once the Games are finished?

4. Speculative interest: we just can’t have a market without the spectulators, however over-bearing they get sometimes

Any idea of what is the weakest link in the oil market? Speculators. There is just not anything else in the world that could completely change their judgment, and in just a few seconds, as the fear of loss getting closer and closer as each upwards move just about holds on. An adjustment in perception in any of the first three factors noted above could easily send a speculator into a frenzied sell off. Unchartered price points in commodities tend not to last too long before support gets tested.

From what I see in the mainstream media no one from the energy industry expects oil prices to remain high. From refinery CEO's, to investors and politician’s, they all expect oil to trade lower over the coming period. To wrap up in just a few lines, I’m not seeing a complete sell-off that will be uncontrolled, but I am seeing a slow return to more normal levels, somewhere around $90-100 per barrel in the following quarter. Whilst this happens, keep an eye on the commodity currencies, like the Usd/Cad, which may get heavily bought, or Aud/Usd that may get a haircut from gold pulling back, inline with oil and the dollar re-aligning.

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There is a constant question from some traders as to why anybody would ever need to consider the ‘F’ word when trading. Fundamentals: what is so damaging at looking at both Technical charts and having a Fundamental filter to gauge how many Lots to put on? Why is it that accepting that Technicals give us price points to trade, but Fundamentals determine the direction that we travel is so difficult for some traders to accept? Without a Fundamental Filter very few pure Technical traders would have seen this Dollar move coming today.

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