Dynamics of 'The Oil Price'

. . . . . . . 'At $100 oil OPEC could potentially buy Bank of America in two months worth of production, Apple Computers in two weeks and GM in just 6 days. It would take less than three years of production for OPEC to own 20% (which essentially ensures a voting block in most corporations) of every S&P 500 company' . . . . . . IAGS, Oil and the new economic order

Think what it can do at $150 oil.

OPEC and other oil rich regions have gathered such tremendous amount of wealth that a shift in the global economic order is imminent. While the world talked about the Asian growth and how it will supersede the western 'first world' in economic prosperity. However OPEC and other oil rich nations (OORN) are the one making a bounty and raking in the moolah.

All this has happened in the last 9 years when crude oil prices have risen from $10 a barrel to $140 a barrel. The demand and supply fundamentals which have been tight form so many years have come to the forefront of every news paper and info vendor. Looking at various demand and supply forecast one can only make out that the prices are headed higher from every point. But does all this demand and supply, including the politics explain the change in price of such magnitude.

There have been oil shocks of this magnitude previously. The current economic scenario looks like a repeat of 1970. However the oil price shock had abated at precisely the time we are experiencing currently. There is a strong correlation between oil spikes of 10% or more with a recession in the US. Have a look at the following graph.




In order to understanding where we stand in the demand and supply, it is important to note that the demand for oil is inelastic up to a threshold price. Determining this price form fundamental factors might be of great interest to some economist. However glancing at price prediction of some industry heavy weights in the oil sector we find that the current price is no where near these estimates. This story can be told later.

There is another important issue. I am not going to discuss the demand and supply figures. Everybody can logon to EIA and the IEA and see what are the 'true' figures. The point is will the crude oil price spiral lead to economic bust. The painful answer to this question in 'Yes'.

Consider these facts about some demand sectors. Lets take up the automobile fuel consumption. The world average of crude oil demand per capita per annum is at $9. At this pace the mammoth western energy eaters eats up nearly half of the world's oil. The car density or cars per 1000 people is very high in countries like US and Canada to the tune of 700 for every thousand. For EU-27 its nearly 450 with some countries having 500 for every 1000. China has the 40 car for every thousand and India 10 every thousand. At current demand rates the oil for demand as measured in the terms of price at $140 is in excess of $1 trillion. However I don't buy the fanciful argument of 'investment banks' that the emerging economies will mimic the demand pattern of the western world by some 2020 or 2030 because there wouldn't be that much oil left. If we analyse the other sectors the demand figures will become so grand that it would be difficult to match supply. At these astronomical demand needs and given the threshold price elasticity the price is bound to go up.

Now this raises a question that whether the price shock should be so severe that it takes the price from a odd $12 per barrel to $145 per barrel. I feel the price rise is exaggerated by market participant to some extent. But the numbers are supported by huge demand figures as well. in the last half a year there has been a reported demand destruction of nearly 2 million barrels and an addition of nearly 800,000 barrel a day of supply. If we scan the history we find that the previous oil spikes came to a halt after the US economy plunged into recession and world economy experienced a slowdown. Although it is happening again it would start getting intense and the slowdown probably wouldn't be a temporary one if price don't fall back to $100 a barrel. Looking from the demand elasticity and working up some numbers, $155 seems an important level where demand will be effected as we reach that price. One may argue that $10 from $145 wouldn't make much of a difference but in reality it does. If price run up $10 from here there would be a very swift reaction in emerging economies like India, China, Indonesia and others. The general consumption would be exposed to further higher prices and would destruct demand on an already inflationary fragile economic setup. This would destruct demand gradually.

The previous oil price shocks saw prices plunging back to the levels they started to climb from. It can happen this time as well. But at that time the demand pattern was much more localized into the western world than it is now. Presently there are huge demand drivers like China, India and even the gulf is eating up large amount of oil. The infrastructure development in Gulf is mind blowing and Asian countries are not far behind. So the long term price inelasticity still stands tall.

Stock market pundits have been seeking a recovery in the markets as and when the oil prices abates. The Federal Reserve is now expected to raise rates by the end of the year with ECB keeping the rates constant. This would lead to a stronger USD and weaker commodity prices which would induce investors back to the equity markets. The 'fanciful' equity markets.

There is a major flaw in this argument. Even if USD strengthens and commodity prices come down, it would only be a temporary shift in price uptrend. The basic economics behind the demand for food grains and energy is driven by addition of 2.5 billion people in the last 20 years to the world population. At this rate the demand is bound to go up exponentially. So any fall in commodity prices would be temporary unless there is huge demand destruction before prices plunge. This means the world should have a phase of slow growth over the next few years in order to have economic balance over longer period of time. The present scenario in no sense can be compared to a 1990 style recovery. We do not have cheap resource sector and lower inflation levels with cheap credit. The way out of the present scenario is a slowdown and some serious demand destruction which is already underway.

Another deeply debated topic for crude oil is the role of speculators. Although one cannot rule out the possibility of mass hysteria that builds around all violent price rise, the oil market seems far from an oil price manipulation cartel. The only cartel is the OPEC itself and is supplying the oil it can. If we consider the futures market to be the reason behind the rise in oil price than it doesn't fit one important aspect. Why is the real demand still holding on? If prices were indeed manipulated in futures markets than a commodity which has no futures contract traded on an exchage should see low volatility if not low prices. But take the case of onions.

A latest article on onions read like this - ( link - http://money.cnn.com/2008/06/27/news/economy/The_onion_conundrum_Birger.fortune/index.htm)

The bulbous root is the only commodity for which futures trading is banned. Back in 1958, onion growers convinced themselves that futures traders (and not the new farms sprouting up in Wisconsin) were responsible for falling onion prices, so they lobbied an up-and-coming Michigan Congressman named Gerald Ford to push through a law banning all futures trading in onions. The law still stands.

And yet even with no traders to blame, the volatility in onion prices makes the swings in oil and corn look tame, reinforcing academics' belief that futures trading diminishes extreme price swings. Since 2006, oil prices have risen 100%, and corn is up 300%. But onion prices soared 400% between October 2006 and April 2007, when weather reduced crops, according to the U.S. Department of Agriculture, only to crash 96% by March 2008 on overproduction and then rebound 300% by this past April.

The volatility has been so extreme that the son of one of the original onion growers who lobbied Congress for the trading ban now thinks the onion market would operate more smoothly if a futures contract were in place.

"There probably has been more volatility since the ban," says Bob Debruyn of Debruyn Produce, a Michigan-based grower and wholesaler. "I would think that a futures market for onions would make some sense today, even though my father was very much involved in getting rid of it."

Now does all the above arguement support the fact listed in the beginning of this article. The answer lies in the alternative to oil. But can we find and alternative to Crude oil ? The answer is in the deep black/dark gray stone called oil shale. It is a kerogen which is found in huge quantity in earth which would turn to oil in millions of years. What we can do now is expedite that process using high temperature process. Back in the 1980's with the middle east oil crisis born the oil shale experiment. When crude prices fell below $25 most of the companies shelved there plans for tapping this resource which is speculated to have 500 billion barrels of oil in the US alone. There are huge untapped region in Africa as well which can last for hundreds of year. Shell being one of the biggest oil major and a avid R&D power house has spent millions if not billions on getting oil from shale and tar sands. There are about 200 patents for shale oil and it is building a refinery for the same in US. It would be a first in 30 years. There has been none, even for crude oil for the last 30 years in US. I am a great believer in science and truly believe that in the next 50 years or so energy will become as cheap as sand due to alternate energy development which include nuclear energy and solar energy. Its just the information content of the present race that would have to go up to reach these levels. However there are serious issues of water being wasted in development of alternative energy from biomass and oil shale. The water being used would not be from main conventional water system, but from saline water reservoirs. Still elections are to be won over these issues and it will take time.
We are still a 0.7 type civilization and approaching the type I mark in next few hundred years where our energy needs would be met in a blink of an eye. But a trader can't trade this information and needs to know what will happen on Monday. We can have a view on this using the wave principle which is as beautiful as the music itself. I would be posting some price targets and expected levels of retreat next week.

Comments are welcome.

Market Update

Dow Jones has broken its January and March lows and crude oil has moved up very sharply making a new all time high above $140.

Our market can trade sharply lower on 27th June i.e. today. As I mentioned previously 4155 is a key support. If this level doesn't hold there would be a strong downward push. Expect markets to test the support level of 3960 if it retests and breaks the low of 4093.

Gold in particular has crossed over the resistance level of $910 convincingly. So we should be alert. If it crosses $935.5 there could be a strong up move to $980 and beyond.

Copper, as mentioned in my previous posts looks set to form new highs. It has already achieved previous target of $8450 and would now aim for a new peak. Copper has entered the 5th wave of a minute wave on daily graph. Overall it has broken out of the 4th wave and would see huge upmove in next few quarters.

Aluminium, which has been very steady and in a trending and non-volatile state, looks set reach $3250 and then $3400 in next few weeks.

Crude oil will face resistance at $145 and $149 next.

Market Mayhem - Is it over?

In my 21 June Market Mayhem Post I wrote -

. . . . .'The pivot low that can be expected from here is 4155. The market may tank further if we break this level. . . . . . Since I feel we are still forming the 4th wave the highest probable count suggest we should end this with 4155. If it doesn't end there we might be staring at a level of 3800 or worse'. . . . .

On 24th June Nifty made a low of 4156.10 and closed above it. The price movement today was an expected reaction of value buying by investors as large amount of stocks were 'supplied' at cheap prices. Nifty again closed above the 4155 pivot and restricted its fall. There is a clear 3 downward impulses corrected by two corrective waves making it a clear 3 down and 2 up 5 wave pattern. The graph on my count placed a mini um target of 4155 which has already been met. It looks something like this.



The corrective 'C' wave has met the minimum price target of 61.8% of wave 'A'. It has also achieved the minimum price target of the subwave structure 5th wave of 61.8% of wave 3. The 5th wave achieved these targets in 6 days which is just a day less than the time take for the 1st wave to form. It was also approximately 1.5 times the 1st wave which was of 400 points.

There are other few points to look at before coming to a conclusion. The market came up nearly 160 points up from low and formed a piercing pattern with high volumes and that too at a pivot point.Today the Nifty index closed with RSI cutting the oversold region form below and closing above it. This happened on a day when it was presented with heavily bearish news. Have a look at this Japanese candlestick pattern.



In my previous blog I wrote . . . . 'I feel that the markets may actually be moving towards an important bottom. That bottom can get formed even this coming week and we may move higher from there. The wave pattern suggests that we may be in for a sharp cut but the time this can last seems short' . . .

Now where do we go from here?
The best thing to trade this market was to get out of it today on the opening blip. Now its time to sit out for two more days and let the pattern resolve itself if one is not on the buying side. The wave count that I have discussed above have another alternate count possible which says that we may be forming just the 1st wave of 5th of 'C'. However this will be tested as and when market tests 4448 and 4680. If market goes above these levels, this count will become a low probability count. Importantly complex corrective pattern (like to one getting formed in Nifty currently) ends with rather simple elliott wave patterns. So we have already achieved one of it.

As discussed above we have achieved all the minimum price projections. However markets can move far beyond the minimum and surprise everyone. So it would be wise to see how it behaves and resolves in the next few trading sessions.



I feel if we close this week above 4280 then there is a higher probability of a short term bottom being formed. However as I wrote earlier, if we close below 4155 on a daily basis 3800 would get me very interested.

At this point aggressive trades would buy the 4150 declines with a risk level of closing below that point. That could be very adventurous. Strong overhear resistance stands at 4450 and 4680. Those points will be the key for prices to resolve into something meaningful.

The Repo rate hike and the rise in CRR was in essence bullish. It gave first cues that the government and the central bank are actually doing something to get down the inflation figures rather than just talking. The market is facing three important risks -

~ Inflation, INR depreciating and leading to higher prices of imported goods
~ Higher crude prices causing worsening of the fiscal deficit
~ Uncertainty about the government at the centre

If investors get answers to these questions, markets would recover swiftly. Meanwhile we will let the price guide us. Market can humble even the most intelligent of traders. Its important to listen to it.

Elliott Wave Count on Gold - II

Gold broke down just from the level which could have triggered alert signal in the structure of the wave count. The most important take from this market movement was to see the wave personality during the formation of this wave. Nearly everybody I talked to or read were bullish about gold. Which confirms that 2nd wave was in progress of the 'C' wave of the corrective zig-zag pattern.

The market has given up most of its last week gains in the first trading day of the week. This week the US Federal Reserve will come up with its rate decision. I feel there would be little to take away from this event unless Fed really comes out hawkish and say or even hint that they would raise rates sooner than September. EUR/USD which has a strong directional correlation with Gold also looks set to decline in the coming few sessions. Daily chart set up of EUR/USD looks weak but the weekly pattern has still not broken down. Euro will get into a medium term bearish zone as and when it trades below 1.5280.

Looking at the elliott wave structure of Gold I see a strong down move to $827 on a daily close below $870. The risk level still remains at $910 on the spot markets. It was hugely profitable to short the market in the latter part of last week as gold neared $908 in the spot market. NYMEX GC near month didn't break its previous immediate high of $912.5, so as an avid elliott wave practitioner it was important to go short. The current structure looks like this.




The zig zag pattern that is taking shape in gold can extend to $750. Still early days to take a call on that. If gold trades below $850, then $750 would make me very interested. Another important pattern that can be seen on the charts is a running triangle pattern which came up in discussion with one of my friends. Here it is.



If we go by the triangle and wait for the breakdown below $860, Gold targets $807 and then $750 over a 3 months period.

On the Zig-Zag pattern Gold targets a minimum of $827 on a close below $870 which would become highly probable as and when gold trades below $860 even for an hour or so. Again its important to keep an eye on the risk level which stands at $910. i will come up with other risk level as and when market breaks down.

Market Mayhem

'I think good trades are emerging in DJIA and local Nifty 50. We may see a very strong down move in Nifty tomorrow.'

The Dow Jones tanked below the heavily watched 12000 mark and the Nifty made a new low down the important support of 4400. Now where do we go from here. In the last one week a lot of things have happened. However we will first let the prices tell us where we stand.



We are in the 4th corrective wave of the minor impulse which itself is the 3rd wave of the primary impulse. The above graph would make it clear.

Market took strong support right at the 38.2% of the minor wave three retracement and made lows for nearly 4 months on 4450. Since we have broken past it and are following a 5-3-5 zig zag correction it seems we have entered the last corrective leg i.e. 5th wave of the 'C' downward corrective wave. The major trend is up. Medium trend is down and is broken rather convincingly now.

The charts are showing that we may be ready for a very steep fall on the Index on Monday. As steep as they come. The following chart would express my view.



The pivot low that can be expected from here is 4155. The market may tank further if we break this level. However an important support or should I say a 'Hurdle' stands tall for the Bears on 4280. In the first image above it is shown with a red line and is the 38.2% retracement level of the minor uptrend. Since I feel we are still forming the 4th wave the highest probable count suggest we should end this with 4155. If it doesn't end there we might be staring at a level of 3800 or worse.



There have been a few development today which can give markets further weakness. There have been reports of protest in some areas.

The government at the centre has suffered a setback as an important 'outside supporting' faction of the UPA government has removed its support.

Although most of this seems factored into the price, there can be further pain due to global weakness in the markets. Inflation reading touched 11.05% this past week and it is just the WPI which grabs the attention. The inflation in the hands of urban consumers stands at nearly 15% and for rural labour it stands at 20%. Interests rates are already way to negative. These facts are all well known and doesn't create selling pressure everyday. However they do make investors and traders nervous and remove those buyers who otherwise buy the Indian story at any price.

A market without buyers is like a falling knife. I feel that the markets may actually be moving towards an important bottom. That bottom can get formed even this coming week and we may move higher from there. The wave pattern suggests that we may be in for a sharp cut but the time this can last seems short.

Watchout for Monday, could be a black one.

Elliott Wave Count on Gold

Gold market turned above the expected risk zone in the initial three days of this week. As promised I would like to share my elliot wave count on spot gold.

Currently we have completed a third wave high pointed as a major 5. The market is now in the 4th corrective wave forming a zig zag corrective pattern. The formation is a double zig zag with currently the last leg 'C' of the corrective wave in progress.

The corrective waves have followed typical 5-3-5 patterns. In the current wave we are forming the (ii) wave of the 3 of the corrective 'C' wave which would be a 5 wave sequence.

An alternate count is the possibility that market has formed an impulsive 1 and completed corrective wave 2 when it made a high of $935 and a low of $856. If we move above $910 this would bring caution bells to my mind and above $935 it would be wise to accept this alternate count and trade with it.

However the possibility of an 'c' wave being in progress looks strong as long as we hold $935. If we close below $870 on a daily basis, a move to lows of $827 would be a given. I remain cautiously bearish of gold as I was when we moved to $935. Gold market correction doesn't get over until the 'Old bulls' get burned.

As I believe, it is wise to trade the pattern then the wave.

Interestingly my focus is now turned to some profitable trades that emerged on an intraday basis in base metals. We had a very strong short covering session today. Copper, Zinc, Lead traded much higher than last week levels.

Aluminium is emerging as the trade of the year. With bullish trajectory remaining very strong since it hammered a bottom in January this year. Currently we have entered the 5 wave in aluminium and might have completed the 1st impulse today. LME aluminium looks set to target $3400 in next few weeks. Possible it is going much higher to $4000 in next few quarters. The prices have resolved into a triangle and broken out of it with record volumes and rise in open interest. I remain bullish on 'Ali' with important support at $3000 now.

Copper has formed the classic near perfect upward impulses in the last 24hrs on local commexs. Comex copper is looking set for a sharp upmove and may have formed an important base. LME copper looks set to rise to $8450 and may be to a new high in next few weeks if volumes keep on supporting the price.

The inventory on LME warehouses have been rather sticky for all the base metals and may reverse its building trend by next week.

Cancellation rates have just started to edge up and might signal some support. However, still one should be cautious where the short covering might end in Lead and Zinc.

I think good trades are emerging in DJIA and local Nifty 50. We may see a very strong down move in Nifty tomorrow.

I will come up with the counts of crude oil shortly.

Metals Market Perspective

Gold markets have given up large amount of gains in the recent weeks and still look weak. The USD index looks set to form a significant bottom, may be an important annual bottom in weeks to come. The US Federal Reserve and the ECB are trying all tricks up their sleeves to strengthen their respective currencies. It looks both the countries want a stronger currency to tame inflationary expectations. The Federal Reserve has already sown the seeds of economic recovery by reducing the Fed Funds rate but it might take more time for the 'Main Street' to catch up the pace it usually does after Fed reduces the cost of money.

The huge liquidity that has been created to save the 'intelligent' investment banks would have catastrophic effect on financial markets in years to come. One thing is for sure, the abnormal returns on equity portfolio would dry up for years. This is true for the emerging markets and the developed countries alike. However as and when the credit crunch abates there would be a flood of liquidity which would create bubbles across the asset classes. One such bubble would be in the emerging market equities.

Coming back to present, the current situation in the commodities markets is quite unprecedented. Crude oil and Gold are trading at extreme value to each other, copper has nearly separated itself from other industrial metals and grains are consolidating.

Currently there seems little evidence of another super rise is precious metals in the next 3 months or so. The wave structure looks weak in case of gold as we enter the most brutal 'C' wave of the double zig-zag correction. Looks like gold is going down to $806 or lower before the next quarter ends. The important point to note is the correcting fractals of the corrective wave in gold. The upmove to $1034 from $860 took lesser time than the current corrective pattern. This means the major uptrend is still very much intact. Gold generally consolidates for lengthy time periods before moving higher and that too in between the 200DMA and 50 DMA. So we are going down in Gold in next few weeks if we break $864 in the spot markets even on a 240 minutes closing basis. A head and shoulders pattern will cap upside in Gold as levels of $880 will be crucial resistance for markets to overcome. This is the potential risk zone with targets at $823 and $806 making it a good risk reward trade on yesterdays market closing.





Its time to watch out for Crude oil in the next week as it moves in a range of $131 to $138. Break above or below would decide the short term momentum. We look forward to crude oil touching $144 next week on a close above $138 on 240 minutes bars and $149 looks probable but it has too many people betting money on it. It has been seen so many times that when markets start deciding the amount of time and price move in 'When and by how much' rather then in which direction, its the time to cut your positions and wait for the reversal. I feel anything above $120 is an extension on our count and will probably end in tears. Still we are in just the third wave, fourth wave will be punishing and would probably be a zig-zag from $144 or $150. Its always better to trade the pattern then the wave.






I will post the graphs of my elliot wave count in the next few days.