Market Report: Is $80 a Price or Just a Destination?

Is $80 the magic number that breaks the back of the fermenting economic recovery? Is $80 a price or just a destination? Well yesterday it looked more like a destination as the front month oil contract hit $80 a barrel on the last trading day of the November contract before it retreated on a US dollar bounce and a plunging Canadian dollar.

Oil fell back from $80 after the Producer Price Index came in showing benign inflation and numbers that showed the home-building market remained weak. Still the $80 a barrel area is raising concerns with oil bulls and OPEC that $80 a barrel plus oil could "hamper economic growth." Comments by OPEC President Secretary-General Abdalla El-Badri seemed to put a scare into oil bulls that were looking for a reason to take profits anyway when he told Bloomberg News that, "Anything above $80 will really hamper economic growth."

Does that mean that it is possible that if oil goes above $80 a barrel OPEC will pump more oil to help save the economy? Right now OPEC has been a pariah of the economic recovery by withholding supply to increase price. Their collision to keep prices high has created an imbalance in the system that could derail the economic recovery. While the rest of the world flooded the globe with stimulus, our friends in OPEC did the opposite. Instead of allowing oil prices to fall and help heal the economy they tried to support prices in a sinking economy. Had they not done that it is possible that the demand for their product would be much stronger than it is. Yet because OPEC failed to allow the market to work naturally, the price of oil is higher than it should be. That becomes a problem and creates an imbalance. As the economy recovers, instead of economic growth absorbing the price rise, it now becomes a threat.

As I have said many times before, high oil prices in and of themselves is not a bad thing as long as they are driven by economic growth. Yet if it is driven by withholding supply and therefore keeping the marketplace artificially high during an economic slowdown, then it can start to do some damage. The funny part of this is that if OPEC had only said that they would pump as much oil as anyone wanted and temporarily lift quotas the truth is that demand for their product would be higher and at this point they could have commanded a $80 price without fear of demand destruction reprisals. The truth is that OPEC at this point would have made more money not less. The perception of an accommodative OPEC production policy would have taken pressure off the global economy and would have given more strength to the dollar and allow global central banks the flexibility to keep their accommodative policies longer without the now growing fear of commodity price inflation. In other words, OPEC probably shot themselves in the foot for some short term gains that may turn out to be longer term pain. Instead of trying to work off an oil glut, OPEC at this point might have had to start bringing back some of their idle production.

Of Course El-Badri takes no responsibility for OPEC's role in these higher prices! He points the blame at speculators. He says that there is no shortage of oil in the market yet he is calling on members of his group to continue to withhold supply. He says that OPEC won't raise production at its meeting in Angola in December unless the 125 million barrels of crude and fuel that remains in floating storage are gone and that conventional stockpiles need to drop. El-Badri said to, "Watch the floating storage, if that is eliminated, and watch the stocks, if they are at 52, 54 days, then OPEC will take action." What great guys. The imbalance created in part by OPEC is creating imbalances in the refining business.

We know it is hampering refiners ability to make profits as high input costs and relatively weak demand cuts into their profits as the driven by lager macroeconomic forces that are creating imbalances within the oil business. That seemed clear in last night's American Petroleum Institute supply report. The API shows that a refiner, while increasing runs slightly to 81.5%, are getting squeezed as high input prices and relatively weak demand is creating a situation that makes it very unprofitable for them to operate. Low runs helped crude stocks increase by 3.8 million barrels. Gasoline stocks fell 558,000 barrels and distillate stocks fell by 998.000 barrels. Crude runs fell by 94,000 barrels.

Yet gasoline demand saw a bump up according to the MasterCard SpendingPulse report. Gasoline consumption in the U.S. rose to the highest level in almost two months as demand increased three-day Columbus Day holiday weekend. Who knew it was such a big driving holiday? MasterCard says that motorists bought an average 9.34 million barrels of gasoline a day in the week ended Oct. 16 which was 3.7 percent above the prior week and the highest level of demand since Aug. 21. Bloomberg news says that It was also the largest week-to-week increase in consumption since Sept. 26, 2008. All regions of the country recovered from the prior week, when demand fell 2.4 percent. Year over year Bloomberg says that demand rose 3.9 percent from 2008, when Gulf Coast refiners were restarting units that had been shut because of hurricanes Ike and Gustav. Demand last October was also weaker because of the U.S. recession, which increased the jobless rate and reduced consumer spending.

Today we get the EIA report yet we still have to watch the dollar. Yesterday the dollar rebounded as Canada's central bank held its key interest rate at a record low 0.25 percent and warned that the Canadian dollar's rise threatens to derail the country's recovery. The Bank of Canada said an economic recovery is under way but said this year's surge in the Canadian dollar is expected to more than fully offset recent favorable developments. As far as rates go the central bank reiterated its intention to hold the rate at its historic low until the middle of next year. Dow Jones reported that the Bank of England's Monetary Policy Committee voted unanimously to keep policy unchanged in October, saying that its bond-buying program had substantially raised equity and corporate bond prices. In the minutes of the meeting, released Wednesday, MPC members agreed that if sustained, the rise in asset prices would help boost economic growth, as would the sterling's depreciation and declines in short-term interest rates. Yet they warned that those huge adjustments were still needed in bank balance sheets, and warned of the risk of further losses in future. And that the forecast round ahead of the November inflation report would provide an opportunity to assess more fully how the medium-term outlook for activity and inflation had evolved since August." Those minutes gave the dollar a boost and sent oil lower overnight as the market awaits today's Energy Information Agency Report oil supply report.