World needs consolidation in oil prices!

Financial markets and world economy, though interconnected, stand diverged on where oil should go.

  • It is quite evident, the equity markets hate falling oil, hence cheer rally in oil prices
  • On the other hand, we have global economy which needs lower oil price.

Why global economy needs lower oil?

  • Aggregate demand across the globe is weak and higher energy prices only reduces real income and therefore consumption. Therefore oil rally would only add to demand deficiency.
  • In fact, oil rallies won’t last long since world is facing demand deficiency!
  • Hence, until China sees successful rebalancing, low oil is a necessity and a new normal

But….there are financial markets and they love oil rally

  • As of now a financial market crash is the last thing anyone desires, hence fresh sell-off in oil is undesirable.
  • No wonder then, OPEC and non-OPEC members are attempting to work together!
  • Financial markets love oil rally, however, as we have seen above low oil is a new normal and a necessity

Hence, an ideal situation is the one where oil consolidates and stays around $40 (+5/-5)

It is to be noted that oil is more likely to drop to fresh multi-year lows, however, OPEC and non-OPEC members would allow that to happen only after financial markets are comfortable with the new normal of low oil prices.

 

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