7 reasons why should oil head lower?

Let’s start with the reasons why you shouldn’t listen to me. I have had a known and well declared bearish bias on oil. Sort of like Abey Cohen on equities when everyone else was bullish and vice versa…I am not an active trader or an analyst, I just enjoy taking the other side of the debate (in the interest of full disclosure I am short USO). But this time I have my reasons and here they are:

1) With the uncertainty around US economy, the 10% drop in sales and industrial production in Japan, the tightening in China, inflation in India and the Euro crisis in Western Europe, the only growth story in 2011 will be Germany. That does not justify the build up in demand gap we have all been talking about for the next 2 – 3 years. And while Japan may face a shortfall of 10MW the increased consumption in fuel oil required by Japan over the rebuilding phase is adequately covered by the excess production capacity within both OPEC and non-OPEC members.

2) Much more importantly as in 2008, higher oil prices, like blood pressure cause multiple organ failure when it comes to the global economy.  Besides the impact on poverty they directly attack consumption and in turn production by reducing middle class discretionary income.

3) Is the market tight given the tensions in the Middle East? As the Saudis recently found out when they couldn’t find buyers for the incremental 300,000 barrels of oil they started pumping post Libya and shut it down when they couldn’t park it. And with the 65+ billion cash handout announced by the Kingdom they certainly had the business case for selling at 112 US$ per barrel. It was the cut heard around the world. So if there are no buyers, and even post Libya we have excess capacity why the push for 147 US$.

4) Right now I would bet that you will find crude oil storage out performing crude oil prices given all the oil that is being pumped out and has no where else to go but get parked in super tankers in the Atlantic and the Persian Gulf. There is talk of the shipping market turning but its turning because the ships have turned into call options on oil by providing the storage capacity and mobility to deliver oil where ever it fetches the highest price.

5) One plausible reason is the inflationary impact of QE2 on commodities including oil and the recent coverage around long term US credit ratings.  With the Euro stumbling all over the last 12 months, at this point in time there is no other contender for a global reserve currency and while the spike in gold prices indicates that the world wishes we were back on the gold standard, we can no longer de-lever our balance sheets without killing our economies.  But the question you have to ask is in absence of growth and consumption, what will happen to inflation. And can you feed your economy and your people your gold and silver holdings.

6) I love quoting Bruce Greenwald, my value investing professor at Columbia. When asked if Gold was an inflationary hedge at US$1,100, Bruce said not at this level. It was at 600 but now you need to look elsewhere. But don’t take my or Bruce’s word for it, just look at the Baltic Dry Index and make up your own mind.

7) And this mornings events will prove to be precursor for a reduction in US forces from Iraq and Afghanistan setting the stage for the election year of 2012. And if that does what it is supposed to do to the dollar, combined with the end of QE2 this June, we are all set for some  whiplash action in the commodities market.  Combine that with the added incentive trouble in the Middle East creates for incumbent governments to pump and dump as much as they can at current price levels. Check out OPEC Quota compliance..

Just my humble, ignorant, non-trading 2 cents…