After the briefest of corrections, oil prices and stocks have moved onto new highs. The surge in oil past $120 per barrel dominated the market today, in part driven by a new report from Goldman Sachs that discussed the possibility of $150 – $200 per barrel prices. The most interesting aspect of the report was that it contained no NEW reasons for the higher price objectives. Rather the ?drivers? remain the same, which are, in my opinion: 1) still growing world oil demand; 2) lack of non-OPEC supply growth; 3) tight spare OPEC capacity; 4) increasing resource ?nationalism?; and, 5) geopolitical instability (read Iraq, Nigeria etc.).
What is different now, is that the global oil market has awakened to the fact that the demand feedback mechanism is broken and that it could take even higher oil price levels to cause a significant drop in consumption. I discussed this concept in a post on April 23. Specifically, the problem is that the bulk of the world?s energy consumers are shielded from the impact of higher oil prices by national subsidies. This is particularly true in China, India, the Middle East, Russia, Asia and Africa. In effect, every country except in the so-called OECD, or developed world.
The US is really the only major energy consumer with a ?real time? price feed-back economic model. Even the more free market European countries have been shielded from the full impact of higher oil prices by the decline in the US dollar. The conclusion is that almost all of the burden of oil ?demand rationing? falls on the US consumer. In fact, this is exactly what has occurred year-to-date as US oil consumption has declined. However, a projected 200,000 barrel per day decline in absolute US oil demand does not even put a dent in expected global consumption growth of over 1 million b/d. Bottom-line, oil prices may in fact have to rise another 50% to invoke the necessary demand response.
A Two Sided Coin: Oil stocks, particularly the pure plays like APA, CHK, DVN, NXY, OXY (and others) should continue to move higher on the back of higher commodity prices. What remains most problematic, in my view, is how the rest of the equity market works not only at $120 oil, but at an even higher potential price. The commodity market and the equity market appear to be in direct economic opposition. Ironically, if the global growth thesis so widely held is correct, the additional economic pain that could be inflicted on the US via a higher oil price is substantial. As a fading thought, it is probably premature for the Journal to call for an ?end to the US Housing Crisis? as it did so in today?s Op-ed section. Also, the gold story may not be ?over? if oil prices strike even higher. Interestingly, these stocks have experienced a significant correction over the last month.
