Chart du Jour: Oil price spikes in perspective

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With crude oil prices having surged over the past ten days, Chart of the Day has just produced a long-term chart of the inflation-adjusted price of West Texas Intermediate Crude, providing an interesting perspective.

The graph illustrates that most oil price spikes coincided with Middle East crises and often preceded or coincided with a US recession. “The logic behind this is that a Middle East crisis can potentially disrupt an already tight oil supply and thereby drive crude oil prices higher. Also, rising oil / energy prices can, among other things, increase costs within the global economy’s supply / distribution chain and thereby contribute to inflation which can in turn encourage governments to halt or reduce any plans to stimulate the economy,” says the report.

Source: Chart of the Day, July 8, 2011.

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1 comment to Chart du Jour: Oil price spikes in perspective

  • David Brown

    Dear Prieur,

    The price of oil is important but other factors over-ride it according to a detailed analysis I made last year (which was kindly published by David Fuller at Fullermoney on April 26, 2011). Whilst the price of oil doubled recently, which in the past has correlated with recessions, I believe that the yield curve is the dominant factor, and that is benign at the moment. Here is the analysis I did last year:

    My analysis of markets from the 1970’s onwards showed that the (inverted) yield curve is the best predictor of a lengthy bear market ahead. The inversion, driven by rapidly rising short-term interest rates, was often coupled with high and rising Treasury yields (bond prices falling due to higher interest rates). Rising interest rates and movement towards an inverted yield curve occurred ahead of all three major bear markets since the 1970’s. A yield curve falling to zero or below (‘inverting’) was a sure indicator – at least over the past 40 years – of recession and falling markets ahead.

    The three long bear markets:

    1) 1/1981-7/1982 with a fall of 27% on the S&P500
    2) 4/2000-10/2002 with a fall of 49%
    3) 10/2007-4/2009 with a fall of 56%
    were all heralded by a negative yield curve appearing either at the same time as markets started to fall (4/2000) or in advance of the fall (7/2006, 15 months in advance; and 10/1978, 27 months in advance). A negative yield curve always led to a bear market but it did not help with assessing the timing – the charts and especially the longer (200 or 300 day) moving averages were the only indicator that helped with timing.

    The dominance of monetary factors over all else was shown by the observation that if yield curve, interest rates and Treasury yields were all benign, that over-rode any of the other technical indicators (oil price, inflation, chart moving averages) that may have been flashing ‘red’. Since the 1970’s, if the yield curve was positive but the 200 day moving average was in danger or even breached, then a short-term ‘correction’ was underway rather than a full-blown lengthy bear market. There are numerous examples: 4/1977-4/1978, 1/1984-7/1984, 10/1986, 10/1987, 7/1990- 1/1991, 10/1992, 4/1994-1/1995, 10/1998, 7/2004, 10/2005.
    “Whilst the yield curve was the most important indicator (and had to be below zero for a bear market to appear), US Treasuries were also important as an indicator of trouble ahead and they could confirm the warning given by the yield curve, but only if the yield curve is negative:
    1. Rising US Treasury yields 10/1980-7/1982 together with rising interest rates and inverted yield curve heralded a bear market from 1/1981-4/1982
    2. Rising yields 7/1999-7/2000 in parallel with rising interest rates and inverted yield curve 4/2000-10/2000) and also a high oil price heralded the bear market 2000-2003
    3. Rising yields 7/2006-10/2006 also in parallel with these other indicators was again a warning of the bear market that began 10/2007
    “However, Treasury yields alone were not sufficient to signal a bear market ahead:
    4. Rising yields 7/1983-7/1984 and also rising interest rates 4/1984-7/1984 occurred at same time as a market correction 1/1984-7/1984 but there was not a bear market. The yield curve stayed above zero.
    5. Rising yields 1/1994-1/1995 together with rising oil price 7/1994-10/1994 and rising interest rising rates 7/1994-10/1995 did not initiate a bear market. The yield curve was positive.
    “This indicates that the yield curve is likely to dominate other factors. The 1987 market drop of -34% was larger than a ‘correction’ (usually defined as a drop of <20%) however it was short (essentially 3 months). The yield curve and other monetary indicators gave no warning of this fall which was essentially a panic following a too-rapid rise in the market in the previous 9 months. At the bottom in December 1987, values were back to where they had been in January 1987.

    I hope this is helpful.

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