Has Oil Reached the Tipping Point?

Wednesday, August 24, 2005 | 08:45 AM

One of my favorite pastimes is watching the analytical process of economists and strategists adapt (or not) to each new dynamic. Paradigms are discussed, data is crunched, Econometric-models get reworked (too often for the worse). Recognizing change is but the first step to preparing portfolios for any and all eventual repercussions.

The most prominent version of this has been the general reaction to the rising price of Oil. Our vantage point in observing this comes from our Bullish stance on energy (December 2003). We have watched the punditocracy go through 5 stages of Grief as oil ticked ever higher.

Be it out of Anger or Depression, one common lament is that high Oil prices are a tax; they are not. Despite the cliché, they are actually worse than taxes: they send US dollars overseas, worsen the Current Account Deficit, and put a drag on consumer spending, as well as business hiring and CapEx. Taxes, however inefficient a mechanism they may be, at least get spent domestically - and as any good Keynesian (i.e., President Bush or Fed Chair Alan Greenspan) will tell you, the impact of hiring teachers or police, rebuilding highways, etc. is to stimulate economic activity. Not so with sending Petrodollars to the Middle-East.

As we noted last week, the impact of this is at long last being felt. The evidence reveals consumer energy expenses are dragging down spending. Energy costs are an insidious form of economic friction. They exact a cumulative drag on pocketbooks and psyches alike. Those Economists who have use the example of high oil prices as proof of the economy’s strength may not have fully considered the ongoing fatigue high fuel prices exert - eventually - on the consumer.

Nowhere is this phenomenon more evident than in Wal-Mart sales data. As the nearby chart shows, Wal-Mart’s out-performance is highly dependent upon falling fuel prices. When gasoline prices are not dropping, their out-performance relative to other retailers disappears.

Here’s the paradox: Wal-Mart is the leading importer of Chinese goods. Yet the blame for high Oil prices is due to in part to the enormous activity in China, itself a response to the Feds massive stimulus.

Thus, conservation methods won’t have much of an immediate impact on Oil prices. Consumers here can drive less and buy smaller cars, but the impact will be de minimus, as the primary demand driver is China, responding to consumer demand for their products in the U.S.

Incongruous though it may seem, so long as Oil stays pricey, it will boomerang back to hurt WAL-Mart’s sales - who started China on their present economic path.

Who ever said economics wasn’t ironic?

Wednesday, August 24, 2005 | 08:45 AM | Permalink | Comments (7) | TrackBack (0)
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This post on Ben Jones' housing bubble blog sums it all in my opinion.

Posted by: Rangachari Anand | Aug 24, 2005 9:42:43 AM

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