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Guest Commentary: Oil Prices Fell Very Sharply Yesterday, What's Next?

Guest Commentary: Oil Prices Fell Very Sharply Yesterday, What's Next?

2011-05-06 13:47:00
Lior Cohen, Energy Analyst for Trading NRG,
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Oil Prices Fell Very Sharply Yesterday, What's Next? – Oil outlook 6 May

Oil prices fell very sharply yesterday. These falls were related, in part to the 2% bump in USD compared to EURO. What is headed for oil prices today?

Let's examine the recent news related to the oil market for today, May 6th:

Oil prices - May

Yesterday May 5th, WTI oil decreased very sharply by 8.64%; this is the fourth straight day that WTIhas been declining. This is the sharpest fall since April 2nd 2009.

Brentprice also sharply fell yesterday by 8.33% and reached 110.58$/b – this is the lowest price level since February 23rd.

Guest_Commentary_Oil_Prices_Fell_Very_Sharply_Yesterday_Whats_Next_body_Crude_spot_oil_prices_April_2011_Brent_oil_and_WTI_spot_oil__2011_APRIL_TO_May_5.png, Guest Commentary: Oil Prices Fell Very Sharply Yesterday, What's Next?

The premium of Brent over WTI reached yesterday 10.78$/b. This is the smallest gap since March 31st.

Notice that despite the many fluctuations in these commodities, the premium of Brent over WTI remained for most of the last couple of month around the 10 and 15$.

Guest_Commentary_Oil_Prices_Fell_Very_Sharply_Yesterday_Whats_Next_body_Difference_between_Brent_and_WTI_crude_spot_oil_price_2011_May_5.png, Guest Commentary: Oil Prices Fell Very Sharply Yesterday, What's Next?

I still think that the premium will moderately fluctuate, but will remain around a double figure gap ranging between 10 and 13 USD.

The EURO/ US dollar Connection

The drastic falls of major commodities as the USD appreciated against many currencies including the EURO may have the most been the most significant factor in the decline of oil prices yesterday.

As seen in the chart below, the EURO/USD daily percent change had a very strong correlation between it and oil prices daily percent changes.

Granted, we only have very few samples in May, and as such it renders the presented correlations not significant, however this gives some perspective on the strong link the EURO/USD has during May (so far) with oil prices (Brent and WTI).

Guest_Commentary_Oil_Prices_Fell_Very_Sharply_Yesterday_Whats_Next_body_Correlations_wti_and_Brent_spot_oil_prices_with_EUR_USD__Dec_2010-_MAY_6_2011.png, Guest Commentary: Oil Prices Fell Very Sharply Yesterday, What's Next?

One of the reasons for this reaction of EURO/USD crashing by nearly 2% in a single day, might be related to the change in direction that the ECB took as ECB president - Jean-Claude Trichet didn't raise the interest rate of ECB and the rate remained at 1.25%.

US Employment Report

Today the employment report was published, according to the report, regarding April the number of non-farm payroll employment increased by 244 thousand people, but the US unemployment rate inclined to 9.0% a minor rise of 0.2 percent point compared to March 2011.

This result was better than expected and this might cause an additional bump in USD and appreciate it compared to major currencies. If this will be the case, oil prices might further decline (see here for more on the recent employment report and its effect on crude oil prices).

Update from the Middle East

Libya

Currently most of the Libyan fighting takes place in the rebel-held city of Misrata where Gaddafi's forces continue to strike the rebels.

Libya used to have one of the highest oil production rates in Africa at 1.6 million bbl/d back in January 2011. Libya’s oil production is still very low and estimated at 0.4 million bbl/d.

See here for the recent news about Yemen and Syria.

Oil price outlook and analysis:

Current oil price continues to drop as it did throughout the week. This correction I have foreseen it coming for a long time as I have stated in the past that oil prices are over inflated and a correction will eventually will come. The rapidness and the timing of this fall are something else and were harder to predict.

The main change came didn't come from the uncertainty related to the Middle East, as this concern is still present, the change in direction came from the currency market and the huge bump the USD got yesterday.

As we are exiting the cold weather in the US and Europe, the consumption of oil for heating purposes is likely to decline. This might also affect the drop in future and spot prices in the upcoming weeks to come.

Nevertheless, despite the recent correction and the rapid decline in major commodities, I still speculate that oil prices will remain near the 100$ mark; however in the mid term will start to come down (as it does now), as the uncertainty around the supply of oil from the Middle East (mainly in Libya) will dissipate.

By: Lior Cohen, Energy Analyst for Trading NRG

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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