Reasons for Lower Oil Prices

 |  Includes: SCO
by: Jerry Slusiewicz
Americans are about to let out a big cheer because pretty soon gas at the pump should be a lot cheaper. Oil as measured by the S&P GSCI Crude Oil Index is down over 7% today. Since its peak on May 2 it is 21% lower. Now who says that there wasn’t a risk premium attributable to Osama bin Laden? (I believe it was just a coincidence that oil peaked the same day the Navy Seals took him out.)
The amazing thing is that Americans are just satisfied that gasoline prices at the pump are heading lower. No one seems to be questioning the rate of decline. We should be outraged! Since the national average for regular gas hit close to $4 per gallon in early May, it should be around $3.16 today. However it is significantly higher than that.
Don’t give me this mega oil industry jargon about lag time for prices, crack spreads and summer blending issues, because when the price of oil was rising the gas stations were raising their prices daily just to keep up. The rate of change should follow price in both directions.
So why are prices declining? Aren’t there multiple protests and even war zones in several of the oil producing countries? Apparently that does not outweigh the slowing rate of growth for the global economy.
Domestically all of the economic reports for the last few months point to a slowdown or in some cases a return to negative growth. Clearly the U.S. housing market has slipped into double dip territory with prices lower today than at any point in the recovery.
The fears of inflation due to rising food and energy prices may soon get knocked off by a rising fear of deflation. Governments are continuing their attempt to stave off defaults around the globe due to lack of economic growth. Food prices may remain high as production factors, weather and a growing global population put a crimp into supplies.
Fear is starting to grip investors and for good cause. Institutions are in sell mode. This is very evident when looking at the trading volume on down days vs. the market’s rally day volumes.
Apparently investors like bailouts and other socialistic government interventionist programs that attempt to prop up markets. Collectively investors are hoping for a Greek bailout package to be put together this weekend so we can “kick the can down the road” once again.
Higher taxes and stringent austerity programs are not going to create growth for Greece. All a bailout is doing is delaying the inevitable. However as long as a Greek default is not today’s problem, it seems investors will be satisfied even though it is clear they don’t have enough money to meet their current obligations. Apparently that is just a minor detail.
Oil prices are falling – fast. Aggressive investors can capitalize by buying into the ProShares UltraShort Crude Oil ETF (NYSEARCA:SCO). SCO broke above its recent base today when it cleared $49.49. The price target for SCO applying some technical analysis techniques is $63 to a $66 per share.
Fundamentally, if the problems in the oil producing regions do not spread any further oil prices could decline. In addition should our economy continue to slog along with slow or no growth, this trade would make sense for today’s investors.
SCO is a two time leveraged inverse fund, so it is not for the faint of heart. It will move at a rate that is twice as fast in the opposite direction of oil prices as measured by the Dow Jones - UBS Crude Oil Sub-Index. Over time leveraged funds do not track an exact inverse rate – but it will move!
SCO was at $51 at the time of publication. Use $44.50 as an exit point should oil prices begin to rise again and the economy begins to accelerate.
Disclosure: I am long SCO.