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Crude Oil Prices Soar – Is the Rally Sustainable?

Crude Oil Prices Soar – Is the Rally Sustainable?
Sep 01, 2015 By Simon Herrmann

Crude oil prices soared more than 7% on Monday, a continuation of last week's bullish momentum which commenced on Thursday. Over the past three trading sessions crude oil prices rallied roughly 27%.

Commodity price futures for Crude Oil Brent rose more than 7% on Monday, surpassing $54 during intraday trade and closed at $53.80. Brent futures are currently trading slightly lower on Tuesday morning during the Asian session.

The U.S. counterpart Crude Oil West Texas Intermediate (WTI) soared to $49.20 a barrel, the highest level in six weeks.

What triggered the surprising rally?

Crude oil experienced the strongest three-day rally since 1990, however last time it was triggered by Iraq’s invasion of Kuwait which ultimately lead to the Gulf war.

However, the rally of the last few days was triggered by factors of much less significance, but neverthelss caused a sudden shift in sentiment.

The strong U.S. GDP data which was released last week was the trigger of the 3-day rally. The data showed Q2 GDP at 3.7% annualised rate, another set of a strong data released by the U.S. government. Investors speculate that the strong economy will be able to counteract slowing demand from emerging economies. While the U.S. economy remains in good shape, U.S. oil production has reached record levels earlier this year and in light of the economic struggles of China as well as other emerging countries, has resulted in an unfavourable shift of supply and demand. Also, the Organisation of Petroleum Exporting Countries, commonly known as OPEC, continues to flood the market which has eventually caused the price collapse.

A downward revision of US crude production and comments of OPEC members that the organisation is willing to negotiate with other producers to stabilise prices, has contributed to the rally. The U.S. Energy Information Administration said that “U.S. oil production this year was lower than previously estimated.” Furthermore, traders with short positions were forced to buy back crude futures, which has helped accelerate the uptrend. The amount of short positions was near record levels in August.

Is the rally in crude oil sustainable?

The unexpected and sharp rally of oil futures is yet another example of the above-average volatility in financial markets. The global volatility index remains at levels not seen since 2011 or even the GFC. Investors appear confused as to what to do in times of economic uncertainty, especially as the impacts of a decelerating Chinese economy are yet to be fully understood.

The rally in crude oil was triggered by a combination of upbeat data, covering of short positions as well as speculative buying. The fundamental situation of oil is little changed, which is why Wise-owl believes that volatility will remain at elevated levels in the short-term. Investors who expect the start of a smooth bull market will most likely be disappointed. However, long-term investors with an horizon of five years or more should certainly consider the low oil price environment as a buying opportunity. A long-term recovery is inevitable due to our dependency of oil in the near-term future as well as the cyclical nature of commodities.

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Simon Herrmann Author: Simon Herrmann Sep 01, 2015

Simon is a financial analyst at independent research firm Wise-owl specialised in small-mid cap growth opportunities and ethical investment opportunities. Simon's aim is to disrupt the cliché approach to investment decision making as he believes that socially and environmentally responsible behaviour is a necessity to long-term wealth creation. Simon has a deep fundamental understanding of the global financial landscape and has compiled 300+ research reports, valuations and corporate appraisals. Simon is commonly featured in major media outlets and his research is published weekly in The Australian.

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