EQUITY RALLY NOT MATCHED BY OIL PRICES

 
David Morris
CFD MARKET STRATEGIST, GFT

THE rally in equities this September has wrong-footed those of us who felt that the August sell-off was the start of something more serious. Now we’re just a few days away from October, typically another worrisome month for markets. While the major US indices have broken above significant resistance levels, recent moves in the Japanese Nikkei and Spanish Ibex look less than convincing. Similarly, although the FTSE is pushing higher, the German Dax is struggling to break above the highs it made earlier this summer.

The recent behaviour of crude oil suggests that not everyone is convinced that the global economic recovery is in place. Aside from one brief interlude this spring, Brent crude has spent the last 12 months trading between $65-$85. Having tracked equities closely, oil has so far ignored the latest rally.

If a global slowdown is in progress, then an overall fall-off in demand would make $80 crude look very expensive in the short-to-medium term. Even now, many analysts reckon that the fair price for oil given the current levels of supply and demand should be nearer $45-$55, and many speculate that current prices are due to an overestimation of Chinese growth.

Going forward, there must be questions over future Chinese demand. The authorities have spent this year trying to dampen speculative activity in the property and stock markets by tightening their banks’ reserve ratios. China’s main export markets look vulnerable: the European sovereign debt crisis is unresolved, while the US has high unemployment and the probability of a double dip in housing. There is rising discord over trade matters between the US, China and Japan, which could finally undermine investor confidence. In this situation, oil would struggle. But a sharp sell-off could provide investors with the perfect buying opportunity to get a cheap entry level to a commodity that is getting more and more difficult and expensive to find and extract, yet remains the single most vital component in powering the world’s future growth.