Crude in 2010

Three months ago we presented a forecast for the PPI for crude oil and oil price in August 2010. Tentatively, we put the index at the level between 160 and 180 in August 2010. Crude oil price corresponding to this level of index should be between $62 and $70 per barrel. It’s time to revisit the price.

All our estimates are based on the existence of long-term sustainable trends in the differences between various subcategories of the producer price index (PPI). The concept is illustrated in Figure 1, where the difference between the overall PPI and that for crude petroleum is approximated by three linear trends. The most recent trend started in the beginning of 2010 and has been strengthening since then. Without loss of generality, we consider that the new developing trend will be a mirror reflection (opposite but equal slope) of the previous trend observed between 2002 and 20008. This is the long-term prediction for oil price with the PPI of crude at the level of 75 point in 2016.

Figure 2 presents the short term view elaborating on the most recent transition period from July 2008 to August 2009 and the details of the new trend. In March 2009, we presented two predictions. In (1) we presumed that, when reached the trend, the price would follow along it. Second prediction was based on a “dynamic overshoot” with oil price dropping much below the new trend, as shown by solid diamonds in Figure 2. From these two predictions, the first was right.

Figure 3 details our prediction made in June 2010 on the evolution of the oil price index between June and August 2010. We expected that the price would fall and the predicted curve rise above the trend, as shown by red circles. This is a consequence of the fluctuation around the trend: the price can not be retained just on one side of the trend line. The measured price did not touch the trend line, however. So, our prediction was not fully right despite the price actually has fallen significantly. The Augusts’ estimates of the producer price index for crude petroleum will be published in the middle of September. It will definitely show a decrease relative to July, but the price will not drop to $70 per barrel.

Therefore, we foresee two possible scenarios. A more likely one supposes that the price in September will fall below $70 per barrel and the measured difference (open circles) in Figure 3 will intercept the trend line. This scenario will be in line with our prediction of the S&P 500 level below 1000 in September.

We can not exclude that the price (and the S&P 500) will not drop in September cumulating more potential relative to the trends. Then, this must happen in October-November and the potential drop will just increase in time as the deviation between the actual curve and the trend. The trend itself seems to be well-established already since the price goes along the trend since August 2009. It might also happen that the true trend is different form the predicted one. It may have lower slope than during the previous period. Then the price will be decreasing a lower rate into the second half of the 2000s. One can better estimate the trend slope in couple years, but before actual data are available we will retain our hypothesis on the slope value.

All in all, we expect the price index of crude petroleum to follow the new trend in the long run with short-term fluctuations of various amplitude and period.

Figure 1. Sustainable linear trends in the difference between the overall PPI and that for crude oil between 1987 and 2010. Currently, we observe the emergence of a new trend, which supposedly is a mirror reflection of the previous one.

Figure 2. The evolution of the difference between the overall (all commodities) PPI and that for crude oil.

Figure 3. The measured and predicted difference between the overall PPI and the index for crude petroleum.

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