Defining crude's bottom

February 4, 2015 08:40 AM

Have crude oil prices really bottomed? I guess it depends on how you define a bottom. Many define a "bottom" as when a commodity reaches a low point and could be in the early stages of an upward trend. A rebound of 20% from the low is considered a bull market. By that definition, yes, oil prices have bottomed. If you look at the percentage move in Brent crude oil, which is up 23% from its low, and West Texas Intermediate is knocking on the bull door after rising 19%. So yes, by that definition, oil prices have bottomed. Why oil prices have bottomed is a more fascinating question.

With U.S. oil supply near record highs and concerns about a slowing global economy, why the sudden about-face in the world of oil?

Part of it is technical. Because oil had such a big drop so quickly, history has shown us that there are always consequences. Not only have we seen a historic drop in oil rig counts we also have seen billions of dollars in capital expenditure cuts from major oil companies. That coincided with a test of a historically significant price level of $44 a barrel based off of WTI that seemed to signal an end to bearishness. History shows us that whenever we see a drop of more than 40% in the price of oil in 6 months we have always seen a rebound. According to data from Price Asset management whenever oil has done that, prices have rebounded on average 9% within three months, 27.5% in 6 months and 58% in 12 months. Usually, it seems with oil the harder they fall the bigger they rebound.   

Yet, the fall of the dollar also helped play into oil's rebound. The dollar had its worst day against other major currencies since October of 2013. The dollar may have topped as they now have priced in the massive amount of global central bank easing as well as European quantitative easing. A major factor in the oil sell-off was deflation expectations that now have eased as the world has gone easing crazy.

That also is significant because of what the relentless dollar rally represented. The dollar was the safe haven currency as deflationary pressures threatened Europe. The market feared that with the United States raising interest rates and the rest of the world easing we would see the dollar go up forever. But now as almost every central bank in the globe other than the United States has reduced rates, deflationary pressures have eased.        

About the Author

Phil Flynn is a senior energy analyst at The PRICE Futures Group and a Fox Business Network contributor. Phil is one of the world's leading market analysts, providing individual investors, professional traders, and institutions with up-to-the-minute investment and risk management insight into global petroleum, gasoline, and energy markets.