Is the “Oil God” Andy Hall dead?

Financial Nigeria Magazine - - Contents -

Andy Hall, the “Oil God,” ac­quired that at­tri­bu­tion after mak­ing flaw­less, bullish calls on oil and loads of cash for his clients at Asten­beck Cap­i­tal Man­age­ment. Of late, the mar­kets have failed to co­op­er­ate with Hall. So, he has re­nounced his bullish faith. In­deed, the Oil God has thrown in the towel on what had been his perma-bullish po­si­tion on oil.

I must con­fess that I an­a­lyzed the oil mar­ket a year ago, and came to al­most ex­actly the same con­clu­sion that Andy Hall held. Back in June 2016, my oil-gold ratio model fore­casted that oil (WTI) would be $65/bbl by July 2017 and $70/bbl at the turn of the year. Well, we haven't seen those prices yet. In­deed, WTI sits just shy of $50/bbl to­day and has been stuck in a trad­ing range for some time–with it never go­ing above $54.47/bbl, a price that oc­curred way back in Fe­bru­ary. It's time to ask, why Hall and I got the oil-price bounce­back right, but were too bullish on the tra­jec­tory of prices? To an­swer the ques­tion, I re­cently re-ran (read: re-cal­i­brated) my oil­gold ratio model.

So, where is the price of oil go­ing from here? To an­swer that ques­tion, one has to have a model – a way of think­ing about the prob­lem. In this case, my start­ing point is Roy W. Jas­tram's clas­sic study, The Golden Con­stant: The English and Amer­i­can Ex­pe­ri­ence 1560-2007. In that work, Jas­tram finds that gold main­tains its pur­chas­ing power over long pe­ri­ods of time, with the prices of other com­modi­ties adapt­ing to the price of gold. Tak­ing the broad lead from Jas­tram, I use the price of gold as a long-term bench­mark for the price of oil. The idea be­ing that, if the price of oil changes dra­mat­i­cally, the oil-gold price ratio will change and move away from its long-term value. Forces will then be set in mo­tion to move sup­ply and de­mand so that the price of oil changes and the longterm oil-gold price ratio is reestab­lished. This is noth­ing more than a re­ver­sion to the mean.

I be­gin my anal­y­sis of the cur­rent sit­u­a­tion by cal­cu­lat­ing the oil­gold price ra­tios for each month. For ex­am­ple, in June 2014, oil was at $107.26/bbl and gold was at $1314.82/oz, yield­ing an oil-gold price ratio of 0.082. The ra­tios for two sep­a­rate pe­ri­ods are rep­re­sented in the ac­com­pa­ny­ing his­togram – one start­ing in 1946 and an­other in 1973 (the post-Bret­ton Woods pe­riod). Two things stand out in the his­togram: the re­cent oil price col­lapse was ex­treme – the Fe­bru­ary 2016 oil-gold price ratio is way to the left of the dis­tri­bu­tion, with less than one per­cent of the dis­tri­bu­tion to its left. The sec­ond ob­ser­va­tion is that the ratio is slowly re­vert­ing to the mean, with a May 2016 ratio ap­proach­ing 0.04.

But, how long will it take for the ratio to mean re­vert? My cal­cu­la­tions (based on post-1973 data) are that a 50 per­cent re­ver­sion of the ratio will oc­cur in 13.7 months. This trans­lates into a pre­dicted price per bar­rel of WTI of $45.84 by the end of July 2017. The ac­com­pa­ny­ing chart shows the price pro­jec­tion based on the oil-gold price ratio model. It also shows the his­tor­i­cal course of prices. It is worth not­ing that, like Jas­tram, I find that oil prices have re­verted to the long-run price of gold, rather than the price of gold re­vert­ing to that of oil. So, the oil-gold price ratio re­verts to its mean via changes in the price of oil.

So, what about Andy Hall's new nor­mal? The oil-gold ratio model pre­dicts that the WTI price will sit at $55.53/bbl at year end. This is about where Andy Hall has set his re­vised fore­cast and $4.50/bbl above where WTI for De­cem­ber de­liv­ery is trad­ing to­day. The Oil God lives.

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