Crude oil lies at the heart of our economic universe. Its byproducts gasoline, diesel and jet kerosene essentially serve as humanity’s only viable transportation fuels. From cosmetics to medicines to the ubiquitous plastic bottle, crude oil touches our lives in a myriad of ways, at times even without us knowing of it. Its presence is also felt strongly in the daily trading cycles of the various markets across the world, and we have written copiously this year on how changes in crude oil prices tend to move equity markets, and can cause certain equity sectors to outperform or underperform against major indices. Trading volume in crude oil and its products typically run into the tens of billions of dollars per day. However, despite its strategic heft, West Texas Intermediate (WTI) crude oil prices have, over the past 15 years, consistently followed in the footsteps of a modestly traded product: vegetable oils. More specifically, soybean oil and palm oil can be said to be the tail that wags the dog (Figures 1 and 2).
Vegetable oils leading price movements in crude oil began to be noticeable exactly 10 years ago. In the summer of 2006, WTI oil prices peaked at a then-record high of $77 per barrel, and by January 2007 had crashed to $51. Vegetable oils were unmoved by the crude oil correction and continued to rally, foreshadowing the powerful resumption of the crude oil bull market that took prices to over $140 by July 2008. Since then, vegetable oil markets have tended to lead crude oil on a number of bull and bear moves, including:
We are not certain why vegetable oils appear to lead crude prices, but one possibility is that when there is too much crude oil, vegetable oils get squeezed out of fuel blends or at least have their use reduced. By contrast, when there is a shortage of crude oil, vegetable oils might find themselves suddenly in higher demand. Producers may also not be as willing or able to store vegetable oils as they might for crude oil, which has seen massive fluctuations in storage levels (Figure 3).
Bottom line: Vegetable oil traders often look to crude oil markets for guidance on pricing, but crude oil traders might be well advised to look at the behavior of soybean oil and palm oil as a possible leading indicator of movements in crude prices.
All examples in this report are hypothetical interpretations of situations and are used for explanation purposes only. The views in this report reflect solely those of the author(s) and not necessarily those of CME Group or its affiliated institutions. This report and the information herein should not be considered investment advice or the results of actual market experience.
Erik Norland is Executive Director and Senior Economist of CME Group. He is responsible for generating economic analysis on global financial markets by identifying emerging trends, evaluating economic factors and forecasting their impact on CME Group and the company’s business strategy, and upon those who trade in its various markets. He is also one of CME Group’s spokespeople on global economic, financial and geopolitical conditions.
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