Crude Oil Rally- Which Sectors To Buy And Stay Away From — Due to the unrest in the Middle East that threatens oil supply, crude has been rallying, breaking above $100 last week.  Libya, the 12th largest exporter of oil in the world, the third largest producer in Africa, and the largest holder of crude oil reserves in Africa, has cut oil production by about 50%, according to the country’s oil chief on Monday.  

Although Libya  produces <2% of the world’s oil and does not export much of it to the U.S., the high quality of its reserves is rare: its light, sweet crude oil cannot easily be replaced by many European and Asian refineries, which are not equipped to refine sour crude.  Note that Saudi Arabia’s recent pledge to ensure sufficient oil supplies would tap into its >4M barrels of spare capacity, the bulk of which is for sour grades of oil.  Hence, I am not quick here to downplay the Middle East situation’s impact on oil.

Some are claiming that the Gaddafi government would not destroy Libya’s oil infrastructure as oil is too crucial to the country’s economy: oil accounts for 95% of Libyan export earnings, 25% of GDP, and 80% of government revenue (CIA World Factbook).  To that I say, yes, Gaddafi is in fact that crazy that he would destroy the oil infrastructure.  (See examples of irrational government action in Russia during WWII and Saddam Hussein in Kuwait.) 

I do believe the threat of supply disruption is heavy, which will keep oil prices elevated.  At the same time, I don’t believe there is a high probability that the political unrest will spill over, particularly in Saudi Arabia.  The popularity (relatively speaking) of Saudi Arabia’s monarch and its wealth are enough for me to believe that uprisings in Saudi Arabia are not an imminent risk.

Thus, I believe the oil shock means shorter term high oil prices.  The short term highs will then be followed by a correction back down to the 90ish level.  I’m looking at short term highs of 122ish, a level from back in summer 2008.  Also, I started an analysis on high 5D changes in crude (CL), which I will post shortly, and when filtering for 5D changes in the double digits, the high end of the corresponding 30D change is 34%, which would put oil at around 127.75.

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