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During October, the price of oil has shifted from gains to losses on daily basis. Despite the sharp shifts in the price of oil it has only declined by 0.5% during the month. United States Oil (NYSEARCA:USO) also declined by the same rate. The decline in the price of oil may have had a negative effect on energy companies' stock such as Exxon Mobil Corporation (NYSE:XOM). What has changed in the oil market to warrant such sharp shifts in the price of oil? Let's examine what has changed in the oil market and try to figure what's next for oil.

Stockpiles

During last week, the U.S. oil stockpiles declined again by 0.5 million barrels and reached 1,059.6 million barrels. There is a negative relation between the shifts in oil stockpiles and oil prices. The current oil stockpiles are higher than they were last year by nearly 27.4 million barrels.

(click to enlarge)

Supply

During the previous week, the U.S oil production rose by 4.3% (week-over- week) and also remained higher than the production level in 2011 by 10.9%; this rise in production was the sharpest gain in over two years. Refinery inputs rose by 0.4%. Imports also edged up by 0.2% compared to last week.

There are growing concerns over the tension in the Middle East including between Iran and Israel. These concerns,however, aren't new and there wasn't any actual or even potential change in the oil market as a result of these tensions.

Demand

This week several reports were published that could offer some perspective regarding the progress of the U.S including: non-farm payroll report and U.S manufacturing PMI. These reports showed some positive signs of progress for the U.S economy, but it's still not clear if the U.S economy is pulling out of its slowdown. On the other hand, there are still concerns for the progress of other leading economies including China and Euro Area.

This could suggest that in the U.S the oil market has loosened up a bit due to a rise in supply and little progress in the U.S economy (demand).

Currencies and Oil

There is still a strong relation between major currencies and oil prices: the EURO/USD rose by 1.2% during October; the AUD/USD declined by 1.3%. The Aussie dollar depreciated against the USD following the decision of the RBA to cut the cash rate by 25pp. During September-October the linear correlation between EURO/USD and oil price was 0.51, which is mid-strong; the linear correlation between AUD/USD and oil price was 0.46. During the week, the appreciation of the Euro might have positively affected oil prices. Thus if the Euro and other "risk currencies" will rally against the USD, they could pull up oil prices.

What's the bottom line?

Despite the sharp shifts in the oil market in recent days the bottom line is the oil has declined on a weekly scale. The sharp shifts may have been a matter of speculations, shifts in expectations related to the tensions in the Middle East, fundamental changes in the oil market in the U.S, or changes in the forex markets. My guess is that the fundamentals are likely to prevail, i.e. if the oil market will continue to loosen up, it is likely to pull down the price of oil. If the U.S won't show any substantial improvement and if the oil production will continue to increase, then oil prices are likely to dwindle. Nonetheless, the tension in the Middle East and the changes in the forex market may keep oil prices in the high 80s or low 90s.

For further reading see "Will Oil Continue Its Tumble?"

Source: What's Up With Oil Prices?