Fundamental Perspective:
Let us first look at the fundamental history of the ‘Oil Bubble’.
The selloff in the oil industry is one to make movies about. The immense price drop caused by the plunge in the demand due to COVID-19 pandemic and output disputes among OPEC+ members, plummeted CFD’s WTI price to a low of 2001 levels. This Friday price closed at $18.44, low of the day was at $17.40.
Despite OPEC+ agreement to cut production, the result was muted by continuous demand shortage as the world economy is on the lockdown to stop the spread of the virus. And with so much oil in the world, problems arise due to shortage of storage space. Oil states now sell barrels for record discounts, Saudi Arabia is selling at $4 a barrel and offering a 3 month pay extension, just so someone would buy their oil. USA shale industry is the biggest loser in this conflict as many companies are getting bankrupt, unable to sustain operation in the low-price environment.
‘Oil Bubble’ History
First sign of oversupply repeats the scenario of the 1980s, when a massive oil glut caused a price decline in that decade after oil demand suffered a massive drop in the world. CEO’s of big corporations, like Exxon Corporation, tried to ensure the market that is it was just a ‘temporary surplus’ and analytical rhetoric was exaggerating its effect. At the end of the 80s, oil price dropped below $10 a barrel. For comparison, when adjusted to inflation, the 1986 drop from $27 to $9 per barrel is equivalent to a 2019 drop from around $63 to $27 per barrel.
The 6 months ‘Gulf War’ caused a temporary spike in oil prices as there were worries about supply from the region. But as President Bush Senior quickly withdrew from the conflict, price corrected back without serious consequences and was stable during Bill Clinton’s presidency as USA enjoyed a steady growth period.
9/11 Twin Tower attack in New York became the catalyst for President Bush Junior to start a war with Iraq in 2003 with full commitment to crush it completely. 2003 is the year of the start of the ‘Oil Bubble’. The pretext was that Saddam Hussein had Weapons of Mass Destruction (WMD), which was never found, and USA admitted that it was ‘intelligence failure’. Nevertheless, first, the US troops were ordered to secure oil fields. Iraq is the 5th nation in the world by the amount of known oil reserves. So, USA now had gained even more influence over the oil market price. The prolonged war in Iraq that lasted 8 years caused a surge in demand for oil during war effort and problems with Iraq oil supply, all resulting in a massive surge in price. Oil price during those years also skyrocketed due to increased demand from developing nations such as China, India, and Russia, that started to develop much faster in early 2000s. Big economic growth also saw high interest rates. Effectively, the price bubble started to inflate on the creation of World demand.
2008 Great Recession caused a burst in Primary Mortgage System in USA and resulted in a massive drop in all markets, including first burst in the ‘oil bubble’, which dropped from all-time highs of over $160 in some markets, down to just above $30 in 6 months. The bottom was found in January 2009 along with the start of economic recovery. Price eventually corrected back above $100 and was in a massive range from 2011-2014 as ‘Iraq War’ ended.
Early 2000s also became the start of the massive investment and development of electric cars. As time went by, they became more affordable and widespread. Continuous move to a ‘greener’ environment by the governments promoted electric cars and taxed heavily high gas emission vehicles. This put further pressure on oil prices. These days, buying an electric car is both environment and tax smart.
2014 became the next shock to the oil price as USA started investing in ‘shale oil’, that used new and highly costly fracking methods. The aftereffect of the 2008 crash slowed the growth of nations and the demand lowered. Saudi Arabia decided to keep output the same for fear of losing market share to USA ‘shale’ industry, knowing full well it can weather low oil prices for years if need be.
Market bottomed in 2016, once it became unprofitable for shale producers to frack with oil prices so low. Return of economic growth since 2008 crash saw an increase in interest rates. Based on that oil price started to recover.
This did not last long as in 2018, President Donald Trump started a ‘trade war’ with China and increased political tensions with OPEC+ countries caused fear in the market. OPEC+ also flexed its muscles and increased supply, it seems it was more of a hit against USA shale industry again. Since price corrected higher from 2016, shale producers renewed their activity.
The final hammer was brought down in January 2020, as the spread of pandemic almost killed the demand for oil worldwide and OPEC+ and USA just fail to reach a substantial enough agreement on output. Now that the oil is back to pre ‘Iraq War’ levels, the oil bubble burst is complete.
Technical Perspective:
Let us look at a purely technical perspective, Elliott waves show we are at the last stages of the massive abc correction from 2008 highs, which could last a while as the global pandemic continues to hammer at demand. Wave C is finishing its 12345 move as well. There is still room to go lower.
On a smaller 1-hour time frame, a confirmed trend line with 3 touches could provide intra-day opportunities to catch pullbacks once we see a break to the upside. As long as this pandemic continues, demand absence will continue to hammer the price. As soon as some lockdown will ease, the demand will return, and price should rise. So technical trading is better intra-day, but overall long-term direction is an issue for fundamentals.
Good Luck and Stay Healthy!
