Oil prices confirm a bear market trend to $44 a barrel

Even news of the deployment of 20,000 more US troops to Iraq has not spurred the war premium factor with markets apparently convinced that this is fully discounted in current prices. Oil prices peaked last July after the Israeli invasion of Lebanon, a reminder that the unexpected should not be unexpected in the region.

However, the confirmation of market oversupply by Nigeria's oil minister Edmund Daukoru, who was widely quoted in global media, is a fact of life that no market can ignore. Market estimates suggest an oversupply of around one million barrels per day.

The immediate explanation is that unseasonably mild weather in the US has kept demand lower than anticipated and the US economic slowdown may be having some impact. US oil stockpiles are at a five-year high.

Downside plunge

Hedge funds and speculators have responded by shorting the oil market and exaggerating the price decline. It is a truism that markets tend to overshoot on the way up and also on the downside.

Icy weather is now starting to spread across the Northeast US which accounts for 80 per cent of US heating oil consumption. But this may not have much impact on the oil price this late in the season, particularly with oil stockpiles so high.

Oil prices are now 33 per cent lower than their peak last July, signaling a new bear market in oil. Chartists note that there have been six bear markets in oil. The smallest fall was 56 per cent; while the average bear market fall has been 82 per cent.

On this reckoning oil prices have further to fall with a decline to $44 a barrel the smallest possible on past precedent, and as low as $14 per barrel would be just an average bear market.

Regional impact

This is not news that will be well received by business in the Gulf region which has become accustomed to half-a-decade of rising oil prices, and certainly not to local investors who have geared up on the expectation of continually rising oil prices.

It would also make nonsense of economic forecasts predicting growth in GDP for 2007 as these much lower oil price levels would have an immediate and highly damaging impact on regional oil revenues. Local stock markets have already crashed, and have partly anticipated lower oil revenues but would surely pull-back still further in this profit environment.

Of course, it could be different this time but supply and demand is a market force that even the mightiest of governments can not control. It may be that regional instability comes to the rescue but the trend on the charts is strongly indicative of a bear market for oil.