For people who are wishing to invest in the oil industry, be it the futures market or stocks and shares of a particular company, it is vitally important that you have a firm understanding of what can and what will affect the price of oil. I have a friend who invests quite a substantial amount of money in the oil industry using a firm by the name of Southlake Resources Group, throughout his time investing in oil he has learned, and in turn taught me, much about the impacts of oil.
I wanted to share with you what I have learned should you wish to start investing in what can often be a volatile industry.
Supply and Demand
At its very roots, the price of oil comes down to basic supply and demand, over supply will drive the price of oil down and lack of buying or a cut in production will send it upwards. An example of this was when OPEC, the group of oil-producing nations, refused to honor an international agreement to cut the amount of oil which they were producing, this lead to the oil price crashing significantly and took quite some time to recover. Another example of this supply and demand having a huge impact on the price was in the 2005 Hurricane Katrina in the United States which affected 19% of the country’s oil production, this caused the oil price to rise by around $3 overnight and up to $5 in a week.
Wars are terrible for the economy and also for the price of oil, a solid economic market and a solid oil price relies on confidence in the markets, and there is nothing worse for building confidence than a war. Oil prices rose to $136 per barrel during the wars in Iraq and Afghanistan, this was in part due to the lack of confidence that war brings and also because these Middle eastern regions are key oil producers.
As with many industries, one of the biggest impacts on the price of oil is actually an impact which cannot be seen, touched or measured, speculation. Oil contracts called futures can be readily traded and these contracts predict what the price of oil will be in the future. These contracts are readily traded based on the existing price of oil and the trading of these contracts in turn has an impact on the current and the future price of oil. Speculation alone is not powerful enough to alter the price of oil drastically but it plays a key role in determining the price of oil.
There are many other factors to what can alter the price of oil but these are the key driving forces behind the price moving up and down. The price of oil can often be a vicious circle, many measure the future health of the economy based on the current and the speculated oil price, despite this, a downturn in economy has the power to crash the price of oil which leads to a negative future for global economies, oil is produced heavily again and the once again the circle begins.