OPEC Cuts, Oil Falls: Something's Not Sustainable

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Includes: OIH, OIL, USO, VDE, XLE
by: Domenic J. Strazzulla

"I hope we surprised you," said OPEC President Chakib Khelil after he announced yesterday that OPEC would cut production another 2.2 million barrels per day in light of falling oil prices and rapidly rising inventories. NOPE!

With oil below $40 OPEC is desperate. But unfortunately for them, and fortunately for the rest of us, the 13 country free trade hating cartel does not control enough of the world’s black crack to fix prices (they are missing the big bad Russian bear). Oil prices today are ruled by shifts on the demand curve, not shifts in the supply curve, and OPEC is powerless to control demand in the short term.

Also, to the advantage of the West, the cartel has been traditionally plagued by oligarchic game theory-esque problems; that is, not all nations abide by their quotas.

Where does oil go from here? Anyone who “knows” for sure is probably just guessing. It all depends on the depth of the world recession, the flight to quality (appreciating US dollar), and how aggressively OPEC ends up cutting production. In my opinion, we could easily see 30 dollar oil given the world outlook and recent inventory numbers.

But I think the oil boom and bust has a very important lesson for America. Now is the time to divest into technologies that will enable us to import less oil and take advantage of more sustainable energy sources such as wind and solar. Oil’s eventual ascent above 100 is inevitable in the long term given the rather stringent supply and unavoidable climb in demand due to population growth and raising standards of living. The smart money is in companies that can take advantage of pricey oil in the future.

My advice to the cartel: to stop trying to manage supply, let oil prices fall as they may; cheap oil will stimulate the world economy and you guys will be able to make more money in the long run. My advice to America: cheap oil is not sustainable; we need to either start developing alternative fuel sources now or start preparing to fight China, Russia and India for the world’s dwindling supplies.

In my opinion, oil is a stupid thing to go to war for given how possible it is to develop substitutes. We all saw what happened in Iraq; let’s use our brain and not our brawn in 09’.