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Along with the falls in US bond yields, the falls in energy prices have been the financial markets’ story of the year, with central banks having to adjust policy as a result of falling inflation expectations. The falls in energy have also had mixed ramifications for corporations, although consumers should benefit from cheaper gasoline.
The falls in energy prices have had also had massive impact on currencies that are strongly related to oil exports, such as the Norwegian krone and Canadian dollar. Both currencies have been sold off aggressively against the USD of late, although the krone has fared much worse.
How much lower can prices in US light crude and Brent go?
It seems that much of the recent downside has been driven by fear and emotion, premised on whether there is a price war materialising in OPEC. Saudi Arabia altering its pricing mechanism has been the catalyst at the centre of the selling, although as the WTI price fell through $80 and Brent through $85, there was broad talk of funds having to hedge the exposure they would have from writing put options to clients. Here when the price traded through the strike price (and thus into the money) they would need to sell futures contracts to limit their exposure from the put option. This would have exasperated the moves lower.
News that Saudi Arabia had cut its official selling price of oil to the US while raising prices to Europe and Asia have been taken by the market to mean the Saudis are trying to get an advantage over the rest of OPEC. However, I am not so sure this is the correct way to look at things. Firstly, Saudi Arabia has been increasing prices to Asia for months now, so this is not new. Secondly, it is true that US demand for Saudi oil has been falling, with the most recent (the August statistics) falling to a four-and-a-half-year low. Having said that, the US is constrained with regards to importing Saudi oil as most of the refining that takes place uses light sweet crude, as opposed to the Saudi’s heavier oil.
There is a risk that OPEC will agree to cut supply at the upcoming OPEC meeting and show the world that they remain united. I would therefore be sceptical about adding to short positions at current levels despite a strong downtrend in place.
If we look at the daily chart (candle), we can see good buying support at the trend low, although we will naturally need to see a higher high to suggest a low has been seen in the move. December light crude printed a lower low in US trade, but this wasn’t replicated in the 14-day RSI or stochastic oscillator, so this divergence could also suggest a reversal of fortunes. Keep an eye out for a move higher on the RSI or stochastic as this could confirm a reversal and a possible low point in the price of US light crude and Brent.