Must-know: Why oil prices swung lower only to recover again

WTI was volatile last week

WTI prices were choppy last week, trading around $3 lower and then immediately jumping $2 up over two consecutive days. On Friday, August 29, prices closed at $95.96 per barrel. On Tuesday, prices dropped to $92.88—a 3% decrease. On Wednesday, prices came back to $95.54 per barrel, again ~3% higher than the previous day’s market close.

Why oil prices decreased initially

The decrease in prices earlier this week is likely a result of the following factors.

Weak Chinese and European data

Europe’s Purchasing Managers’ Index, or PMI, is a crucial economic indicator of the health of Europe’s services sector. It fell to 50.7 in August from 51.8 in July.

China’s PMI was at 51.1 for August, missing analysts’ estimate of 51.2.

Weak economic data curb oil demand. Accordingly, WTI oil prices fell on concerns that slower manufacturing growth in Europe and China will curb global oil demand.

Brent prices were also affected, falling to the lowest level in 16 months on Tuesday.

The U.S. dollar is sharply up

Crude prices also retreated after the dollar rallied to its highest level since January. A stronger dollar makes dollar-priced commodities like oil less appealing, especially for foreign currency holders, and limits their demand.

Further, the ECB (European Central Bank) cut interest rates to a record low. This caused the euro to fall to its lowest value in more than a year against the dollar.

Why oil went up after declining

1. Strong U.S. factory orders – U.S. factory goods posted a record gain in July. Auto sales last month accelerated to their highest level in 8.5 years. Reports suggest that August sales were approximately 5% higher compared to the previous year’s figures. This is bullish for oil demand in the U.S.
2. Ukraine-Russia talks – Oil prices rallied on Wednesday on expectations that peace talks—set for Friday—between Ukraine and Russia could boost demand.

Although political tensions are usually bullish for oil prices, the unusual rise in prices as tensions ease is probably because the markets feel that peace talks in Russia will lift oil consumption demand.

Key stocks and ETFs

Higher oil prices are positive for oil producers like Anadarko Petroleum (APC), Apache (APA), and Marathon Oil (MRO). Most of these companies are part of important ETFs like the Energy Select Sector SPDR ETF (XLE) and the iShares U.S. Energy ETF (IYE).

The WTI-Brent spread

The following part of this series discusses the WTI-Brent spread.