Pete Wargent blogspot
Co-founder & CEO of AllenWargent property advisory, offices in Brisbane (Riverside) & Sydney (Martin Place) - clients include hedge funds, resi funds, & private investors.
4 x finance/investment author - 'Get a Financial Grip: a simple plan for financial freedom’ (2012) rated Top 10 finance books by Money Magazine & Dymocks.
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Saturday, 24 November 2012
10 forces which can make prices move
Oscillation around a fair value
A great number of commodities increase with inflation over time. Sometimes they become very expensive and at other times they become tantalisingly cheap, although they often oscillate around a median or fair value.
Some asset classes are liquid, such as shares or equities and therefore are very volatile. Residential property prices tend to be less volatile as even during a recession most people elect to remain in their homes rather than selling up.
Ultimately, the underlying forces which move asset prices tend to be the same regardless of the asset class. Today, I’ll look at what the 10 of those forces are but, for a change, will look at a brief history of the price of crude oil to do so.
1 Inflation (1948-1957)
Prices of commodities tend to increase over time as the currency gradually becomes worth less. From 1948-1957 the price of crude increased steadily from $2.50 per barrel to $3 per barrel (the above chart is inflation-adjusted to 2008 dollars) broadly tracking inflation during that period. There then followed a period of…
2 Flat prices (1958-1972 - decline in real values)
When prices become a little high, they can sometimes ‘take a breather’ such as they did between 1958 and 1972, the real price remaining at around $3 per barrel. The nominal price of crude remained flat which represented a fall in real cost while the purchasing power of currency caught up. Unfortunately the outbreak of war then caused a major…
3 Undersupply (1973 - Yom Kippur War)
In 1973 Egypt and Syria invaded Israel which saw the supply of oil being cut off and the price of crude more than doubling. Fortunately, normal service was resumed and this allowed a period of gently declining prices until the impact of further…
4 Political instability (1980-1981 - problems in Iran and Iraq)
Political instability in Iran and Iraq caused the price of oil to increase very sharply again from $14 to $35, which eventually introduced a risk of…
5 Weak demand! (1981)
As prices soared ever higher, Saudi Arabia warned the other oil-producing countries (OPEC) that if nothing was done about spiralling prices then demand would drop off as consumers sought alternative energy sources and methods of using less oil. This is indeed what happened as consumer nations introduced energy efficiencies such as better insulated buildings, more streamlined industrial processes and cars which used less fuel per mile. And problems were then exacerbated by…
6 Government legislation (1981-1985 - Saudi relaxes controls)
Saudi Arabia finally lost patience and relaxed its controls on production. The oil supply was ramped up in its production from 2 million barrels per day to a massive 5 million barrels per day. The price of crude went into freefall until the world reached a state of major…
7 Oversupply! (1986)
The price of crude dipped alarmingly to below $10 per barrel by 1986. A period of relatively moderate price action and then a steady recovery followed until the world experienced a…
8 'Black swan event' (2001 – 9/11 terrorist attacks)
The effect of the 9/11 terrorist attacks on the price of crude was short and sharp seeing a plunge in prices before the commodity was rescued by…
9 Growing demand (2002-2007 - boom)
A period of uninhibited global growth combined with further problems in oil-producing countries sent prices soaring above $90 per barrel, until eventually the exuberance was reversed by...
10 Recession! (2008-2009 - financial crisis)
The global financial crisis hit many commodity prices incredibly hard and the price of crude almost halved in a remarkably short space of time as fear set in.
Reversion to the mean
The price of crude today again sits proudly at $88 per barrel. While markets flip between exuberance and despondence, the long-term trend is an upwards one driven by growing demand and inflation. Between 1948 and today prices have hit some extreme highs and critical lows, but the net result is that they have increased from $3 to around $90.
Personally I don’t invest directly in physical commodities as they do not generate income. There is usually much greater longer-term value in investing in those assets which create income (which can include the companies which mine commodities) and have the opportunity to grow in price in addition.
If you can develop a plan which focusses on acquiring quality assets at reasonable prices and can learn to ignore the short-term gyrations in sentiment, your long-term outcome will be a wealthy one.
I enjoyed my contribution to Kevin Turner’s Great Real Estate show on Brisbane’s 4BC Radio this morning.
If you missed it you can catch it online in a week’s time on Real Estate Talk.