3 Scenarios That Will Bring Oil Prices Back Up

Jun.27.12 | About: The United (USO)

The price of oil has tumbled down in the past couple of months by more than 24%, or by nearly $15 per barrel. United States Oil (NYSEARCA:USO) price fell by 24.9%. One of the reasons for the decline in oil prices is concerns for economic growth in Europe China and U.S. that could lower demand for oil. Currently, it seems that oil prices are settled in the $77-$85 range. Will oil remain at its price range in the near future? Let's examine several scenarios that could pull up oil prices this year.

During June (UTD) oil prices declined by 8.3%, this comes after oil had tumbled down by 17.5% during last month. Energy stocks such as Chevron Corporation (NYSE:CVX) and Exxon Mobil Corporation (NYSE:XOM) were also adversely affected by the fall of oil as they plunged during last month by 6.9% and 8.3%, respectively.

Let examine what could bring oil prices back up:

  1. Saudi Arabia cutting its oil production quota: It was agreed in the recent OPEC meeting to keep oil production at 30 million bbl/day. OPEC's current oil production is above the agreed upon ceiling. This is mostly due to the rise in Saudi Arabia's oil production during 2011 and 2012. If Saudi Arabia will decide to start cutting its oil production in order to maintain OPEC's oil production ceiling it could tighten the oil market which could lead to another price hike.
  2. A rise in the tensions between Iran and U.S.: Tomorrow President Obama will be able to enforce sanctions on countries that will trade with Iran. The sanctions on Iran could end up adversely affecting the oil market. At this stage major oil importers such as China and Japan are excluded from enforcing these sanctions on Iran therefore the status quo is likely to remain (at least for now). But if there will be deterioration in the relations between Iran and U.S it could pressure oil back up.
  3. Fed issuing another quantitative easing plan: Following the recent FOMC meeting in which it was decided to extend operation twist throughout the rest of 2012, there are still those who bet the Fed will issue another QE program this year. I'm not convinced this scenario will occur but if so it could pull down the USD and pressure up commodities prices including oil price.

If one or more of the above mentioned scenarios surface it could push back up oil prices to the 90s and perhaps even into the 100s. The price of oil is strongly correlated with the above mentioned stocks - Chevron Corporation and Exxon Mobil Corporation . During 2012 the linear correlation between Exxon's stock and oil price (daily percent change) was 0.54; for Chevron the correlation was 0.62. This means (assuming all things equal), if oil prices were to increase it could push up these stocks prices. In particular (assuming linearity, and normality) for every 1%, growth in oil price, the price of Chevron could to increase by 0.52% and Exxon by an average of 0.37%.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.