Cantillon: Smell of fear permeates as oil prices plunge

Time was when tension in the Middle East would send oil prices soaring. No more. Despite the activities of Islamic State, international pressures on Saudi Arabia and the generally nervous mood in the region, oil prices have continued to fall. Even on Wednesday, an early rally in prices ran out of steam as the same old concerns about the outlook for oil demand and supply resurfaced.

With Brent crude trading around $30 a barrel, warnings that it could fall as low as $20 in the months ahead do not look as far-fetched as they did a few months ago. OPEC’s hold on the market appears to be weakening – due in part to the prospect of massive new shale reserves in the US – and in the short term the return of Iranian oil, previously embargoed, is another reason to sell.

The history of oil prices suggests that forecasts are about as reliable as those made for equity markets – in other words not very reliable at all. Yet whatever about forecasts that oil is now set to remain low for a prolonged period, reflected in futures prices on the market right now, it is hard to see a case for any significant rise in the short term.

There is now an intense debate among investment analysts who broadly fall into two camps. On one side are those who say that it’s is time for investors to adopt a defensive position and reduce holdings of equities and other “risk” assets. On the other is a view that while markets are going to be volatile, the world growth picture is not that bad.

So far the evidence does not conclusively prove either case. China has certainly slowed, but whether it is heading for real trouble is unclear. Big oil exporters such as Brazil, Russia and Malaysia are certainly suffering due to falling oil prices. And there is real debate about the big developed economies. In the case of the US and UK the fear is that recovery will run out of steam. For the euro zone, the concern is that it won’t get going in the first place.

For investors, confused by the conflicting signals, the oil price is a decent indicator to watch when trying to assess the market mood. At the moment fear is winning the day.