Rising fuel prices: The not so obvious political risk in energy markets

Oil and gas markets may be underestimating the level of political uncertainty among some of the biggest energy producers. And the risk stems from the very thing that many governments in these countries are trying to engineer, higher prices. Except that now, higher energy prices, far from just helping to fill the government coffers are now starting to hurt the ordinary people that have come to rely on the goodwill of their governments.

The reason? Well, previously, authoritarian governments had attempted to placate their citizens through subsidies on everything from energy, food and many other daily staples. The decline in oil prices starting in mid-2014 prompted many oil producing nations to reform their subsidy systems, reasoning that in a ‘lower for longer’ world they had no choice to reduce or eliminate the payments and that the fall in prices presented a golden opportunity for them to do so without their citizens noticing.

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Oil prices: The top 10 most important drivers

Demand

Economic growth has a strong impact on oil consumption. Increased demand for transportation (e.g. more car miles traveled), higher power generation and increased road building (uses bitumen, a derivative of oil) and other products such as plastic result in higher demand for crude oil. Expectations of stronger economic growth can result in higher oil prices as speculators anticipate higher demand for crude oil.

OPEC supply

Announcements by oil ministers from the most important oil producing countries within OPEC can also influence oil prices. Recognising that they can’t always adjust output rapidly in order to influence the price of oil, a strong statement of intent can often be enough to influence sentiment and result in higher prices during a period of seasonal weakness. Despite their influence OPEC have a poor record of sticking with their agreements. The conflict between members and non-OPEC producers means that there is an incentive for individual members to overproduce.

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Most read articles of 2016: What a year

Over the course of 2016 one of the main areas of focus for commodity markets has been geopolitical risk, and so it has been reflected in the most popular posts of the year on Materials Risk with concerns over the US election and the EU referendum in the UK the top of investors concerns.

Despite the interest in how politics affects markets one of the main takeaways from the year has to be how it is important to focus on how the ‘narrative’ changes once an election outcome is known – gold and other precious metals have been the primary casualty since the middle of 2016 as despite investor fears materialising the price of gold as gone in the opposite direction to which ‘pundits’ have forecasted.

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