Oil: Where Geopolitics Meets Inflation

Few markets can influence the global economy as quickly as oil.

Higher crude prices affect much more than energy companies. They increase transportation, shipping, manufacturing and input costs and can eventually feed directly into consumer inflation.

For that reason, oil prices are closely watched by governments, central banks and global investors.

Prices are determined by a complicated interaction between global demand, production, inventories, economic growth and spare capacity.

But oil has an additional driver: geopolitics.

A significant share of global energy production and transportation depends on politically sensitive regions and strategic waterways. A geopolitical event can therefore change global supply expectations within hours.

Energy prices also interact directly with monetary policy. Sustained increases can fuel inflation and make it more difficult for central banks to ease interest rates.

Oil should therefore not be viewed simply as another commodity.

It is a macroeconomic variable capable of affecting inflation, currencies, interest rates, equities and economic growth simultaneously.

To understand the oil market, investors should continuously ask three questions: What is happening to demand? What is happening to supply? And how much geopolitical risk premium is currently embedded in the price?