Wednesday July 6, 2005 - 11:52:14 GMT
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Black Swan Capital - www.blackswantrading.com
Crude: Deflation and dollar trigger?
“By far the greater part of our important decisions depend upon ‘hunch’—in other words, upon the ‘peripheral vision’ of the mind.”
Now, we know the central bankers have taken on a God-like persona, but not even they have rendered the laws of supply and demand obsolete just yet—have they?
There seems a budding frenzy—and in some quarters real frenzy—to get exposed to the oil market. The psychological tone has all the earmarks of a massive one-way bet—long crude and anything associated with it. But supply and demand in a quasi free-market system still have a way of balancing these things out. In other words, the higher crude rises, the more it fertilizes the seeds of its own demise.
“The oil bubble, however, pulls down the economy. Its demand feedback is so negative that such a bubble cannot last very long. So far, the global property bubble has offset the negative effects of high oil prices on demand. However, with the exception of the US, property markets have stopped rising or have begun declining. Thus, the negative effect of high oil prices is becoming more palpable now,” according to Andy Xie of Morgan Stanley. [our emphasis]
Rising housing prices have liquefied Mr. Consumer helping to offset the higher cost of filling the gas tank. So, we now have duelling bubbles…
Just for kicks, we added one more prices series to the graph--copper—we now have three bubbles to choose from…
Now where is the feedback loop centered for all these bubbles? Two places we can think of:
1) The Fed – massive liquidity has to go somewhere
2) China – massive demand leads to higher prices
It seems, based on the information gleaned from the last Fed meeting that they are serious about removing liquidity from the system. They threw a bone to the inflation concerns—but the evidence to date suggests that higher oil prices have not been inflationary—if they were we sure should have seen it by now. If $60 bucks doesn’t do it, what will?
In a normal rotating economy maybe higher energy cost to business should be passed on—but we are not in a normal rotating global economy. We live in a world where one country borrows and spends like drunken sailors despite low or no real wage growth—buying goods from a country that pays no real wages to produce final goods cheaper and cheaper—China, then refunnels those goods sales to back into Treasury bonds in order to keep its consumer liquid. Hmm…! Nice game!
It all seems an incredibly deflationary backdrop—low wages, high debt, massive supply of final goods. And crude could be the catalyst that kicks deflation up a notch.
Back to Mr. Xie: “The bubble will burst when demand slows sufficiently to create enough excess capacity to overwhelm speculative demand. Asia Pacific accounts for 29% of global oil consumption and is slowing fast, partly due to high oil prices. The demand for oil is softening in Asia, and the days of the oil bubble are numbered, in my view.”
Bubble, bubble toil and trouble. As we watch crude climb, we think we are closer to what we talked about yesterday—China troubles could lead to more money rushing back on shore to hide in the dollar.
Black Swan Capital
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