The Great Debate UK
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
LONDON -- The global oil price is back up above $90. A gauge of manufacturing exports in the UK is at a 15-year high. U.S. Treasury yields are rising. The link between these apparently disparate stories is that the world is reaping what it has sown. Deflation is over and inflation is coming back -- perhaps strongly.
The oil price spike reflects a broader trend in commodities. The Reuters-Jefferies CRB index of commodity prices has risen by 20 percent since the end of August. Copper, gold and silver are all muscling to records or at long-term highs. There is more to this than simply loose money and speculation in commodities markets. In 2008 and 2009, speculators shorted the dollar and went long commodities -- physical goods seemed safer than the paper central banks were printing so liberally. The difference now is that the dollar and commodities are rising together. Meanwhile, yields on 10-year U.S. Treasuries are also climbing, above a still low 3 percent.
The growing belief in the markets is that double dip has been averted and that growth and inflation are coming up. Barclays Capital raised its 2011 U.S. growth forecast after the deal between the U.S. administration and opposition Republicans on retention of Bush-era tax cuts. Markets are factoring in recovery. That looks bearish for very expensive bonds but positive for commodity prices.
Wall Street has always loved the fees generated by deal-crazy oilmen. But the recent flurry of energy industry hook-ups -- $130 billion so far this year and counting -- is once again making them the most valuable clients for the world's merger advisers. Bankers in the oil patch are likely to remain in high demand even if energy prices stumble.
Oil and gas producers often jostle with financial services firms for the top sector spot in merger activity. Pricey oil, at over $80 a barrel today, may be helping give the energy sector the edge by boosting valuations. So far this year the industry spawned 46 transactions worth $500 million or above, racing past financials with just 31 deals, according to Thomson Reuters. But resurgent energy prices are only part of the story. After all, natural gas -- which has been at the epicenter of much deal-making -- still languishes at less than a third its 2005 peak.
from The Great Debate:
Changes in reported U.S. oil inventories play only a limited role in driving futures prices on the NYMEX. Their influence is far less than the cross-over effects from other asset classes such as equities.
The chart below shows correlation between the change in U.S. inventories as reported by the Department of Energy (DOE) each week and movement in front-month oil prices on the publication date.
Investors like simple narratives, which is why markets swing erratically and illogically between extremes of hope and fear. Reality is more complex. As F. Scott Fitzgerald remarked “the true test of a first-rate mind is the ability to hold two contradictory ideas at the same time”.