Why Crude Oil Prices Have Peaked

Asad Dossani

In November last year, OPEC reached an agreement to curb oil production. And just last week, they agreed to maintain the cuts for another nine months. However, crude oil prices haven't gone up. Prices remain within the tight range of US$45-55 per barrel. A far cry from the US$100 oil we had three years ago.

Historically, OPEC production cuts have led to big increases in oil prices. These countries controlled a large share of the market. And demand for oil is inelastic. Meaning consumers will continue to buy even if prices are high. The combination of monopoly power and inelastic demand meant that OPEC could move the price up whenever they wanted.

But today's market reactions are muted. The market understands cuts don't have the impact they once did. OPEC's market share has dropped considerably due to shale oil production in the US. It appears that any production cuts OPEC makes are made up for by increasing shale production. Thus, the impact on the market is minimal.

Even the demand side isn't what it once was. Until recently, there have been few alternatives to crude oil. This is why demand was inelastic. But today, there are better alternatives. Chief among them is natural gas, which is cheaper and cleaner than crude oil. We see it all around us - CNG vehicles, for example. This makes it easier for consumers to substitute for crude oil. And it reducers the pricing power of the suppliers.

Both the demand and supply side imply an upper limit on the price of crude oil. We don't know what this number is exactly. But based on the last few years of data, it seems to be around US$55. This is the price shale oil can be produced profitably in large quantities. No matter how much OPEC cuts supply, it will be difficult for oil to breach this level.

The lower limit on crude oil is harder to discern. Critically, it depends on how long OPEC keeps up the production cuts. As long as they maintain low levels of production, prices are unlikely to fall below US$45.

But at some point, OPEC will realise that production cuts aren't in their interest. It may have made sense when they had a large market share. But today, whatever production they cut gets filled by someone else. If and when these production cuts disappear, crude oil may see dramatic falls, possibly all the way to $30.

Perhaps you're wondering how you can take advantage of this information. Well, the best way is to start trading derivatives. And specifically, crude oil mini futures contracts on the MCX. If you are new to derivatives, this is a great time to start trading. In fact, I have prepared a special online learning course on how to trade derivatives. For a small investment, you can learn how to take advantage of today's crude oil market.


Market Notes

Page Industries at 14,000 - Expensive?

Have you ever liquated a four or five-digit stock just because you though it had become too expensive to hold? If so, did you ever stop to think just how high the price could go? After all, is it wise to make an investment decision based on the share price in isolation?

It's one of the biggest misconceptions in investing. So let's be clear: high-priced stocks are not necessarily expensive and low-priced stocks are not necessarily cheap.

In an earlier note, we showed you how high-priced stocks have performed. Stocks like MRF, Page industries, Eicher Motors, and Bosch rose 575%, 475%, 1,640%, and 200% respectively in past five years. We also crunched data for you showing that high-priced stocks not only generate superior returns but are less risky than low-priced stocks.

There's a huge difference between price and value. It's very important to understand this if you aim for multi-bagger stocks.

Hidden Treasure, for example, a small-cap recommendation service at Equitymaster, recommend Page industries eight years back. It wasn't a high-priced stock back then. But it was five years back. Nevertheless, the team still recommends to holds the stock.

Had they recommended selling it five years back thinking it was expensive, they would have missed the transformation of a good stock into a multi-bagger stock.

Looking at price in isolation can lead to regretful investment decisions.

Hidden Treasure recommended holding Page industries because, looking at the price in relation to fundamentals, it may be viable to do so. In a recent issue of The 5 Minute WrapUp Premium (subscription required), Girish Shetty, research analyst at Equitymaster, explains the rationale behind continuing to recommend holding Page Industries despite the massive gains and seemingly expensive price tag.

The stock might still be trading cheap fundamentally, which is great news for value investors. But that is not our area of focus. We are more concerned with how the stock appears on the charts.

So is Page industries still attractive on the charts? Let's have a look.

Page Industries - Rangebound
Page Industries - Rangebound 

After the stock bottomed out at Rs 256 in January 2009, it had a spectacular bull run to hit a life high of Rs 17,000 in June 2015. The stock then corrected 40% from this high. But the bulls refused to give up, and the stock resumed its up move to retest the 17,000 level in October 2016.

But the stock found resistance there and corrected. It is now trading at Rs 14,280. The stock has tested the 17,000 level twice, forming a potential double top pattern.

Since January 2009, the RSI indicator, which shows the strength of the trend, traded in bullish territory hardly falling below 50. But as the stock corrected from its June 2015 highs, the indicator fell below 50 to trade in bearish territory. Although the RSI recovered, it is now hovering near 50 level, thus giving us no clear view.

It seems that the stock is consolidating. A break below Rs 10,000 will confirm the double bottom pattern. In that case, it might see a serious setback. But on the flipside, if the stock breaks above Rs 17,000, it could resume its uptrend.

So unless we see a move above 17,000 or below 10,000, we can expect Page Industries to consolidate in this broad range. A move outside this range could provide further clues on where the stock is headed.

So technically, we'll sit on the sidelines for the moment and wait until the stock gives us further clue.

From The Market Wizards...

"The market does not know you exist. You can do nothing to influence it. You can only control your behavior." - Alexander Elder

Comments on this edition of Profit Hunter:
Post a comment | Read comments

Get Asad Dossani's Best Short Term Investment
Opportunities Delivered Straight To Your Inbox!

Sign Up For Profit Hunter Today... It's Free!
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use
We request your view! Post a comment on "Why Crude Oil Prices Have Peaked". Click here!