Oil – What does really influence it?
Since our last article on oil, many of the factors we highlighted have become important pillars in the development of its price. Previously, we discussed geopolitical tensions, supply chain disruptions, and oversupply as the main drivers behind the price, however have their importance changed?
When discussing war from an economic perspective, it’s easy to come across as insensitive, as economic analysis primarily focuses on market reactions and material consequences rather than human suffering. That said, the aim of this article is to explain why oil has been particularly volatile recently. To do so, it is essential to understand how pricing works in an open market. Commodities, like other asset classes, base their value on a mix of expectations and fundamentals, which can explain why last month’s Iranian missile strike on Israel can cause future prices to change. The retaliation from Israel was anticipated and thus, already priced into the market, and due to the fear of supply disruptions, prices initially increased. However, Israel responded relatively below expectations, causing prices to decrease. This is also why a company can perform well in a Q3 report, but if expectations were higher, the share price can still fall.
Competing Forces
These forces compete against each other: geopolitical tensions potentially causing supply chain disruptions and Organization of the Petroleum Exporting Countries (OPEC) causing oversupply. Currently, the fear of the conflict escalating has decreased, and thus OPEC is more central in influencing the future of oil prices. While no further information regarding OPEC's stance on oversupply is known, a presidential election, with Donald Trump currently leading in the polls, suggests a continued fierce competition between the two. Donald Trump is keen on oil, and thus it can be expected that oil production will remain high, especially since one of OPEC's fundamental reasons for increasing production was the U.S. gaining market share.
Furthermore, according to several experts, the future outlook for oil remains low due to weakening demand. Currently, oil is beginning the month at a low level, closing below the 200-day moving average, which may come as a surprise considering that the Hamas attack on Israel was a year ago and was believed to keep oil prices higher. However, this highlights something important—namely, that, as mentioned before, our expectations constitute a large part of what determines these prices. We must repeatedly adjust our expectations based on the developments of uncertain events, but perhaps most importantly, weigh them against each other to determine which one will have the greatest influence. It should be noted that the importance of these factors can change, and very quickly. As the decline observed in oil over the last few years was suddenly disrupted by heightened geopolitical tensions, it should be clear that nothing is certain. While many anticipate a rough short-term performance for oil, the uncertainty of the various factors influencing its price will present opportunities for investors who understand them.
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