By Andrew Whitelaw | Source: World Bank, AAA
In early February we ran an article examining the relationship between natural gas and fertilizer. In this study we determined that there was a high degree of correlation between natural gas and fertilizer prices. In this article we will examine the collapse of crude oil and its impact on local fuel prices.
In terms of input costs for an arable farm, fuel is one of the main costs of production alongside fertilizer and chemicals. In this analysis we will look at crude oil, and the average Australian petrol(unleaded) pump price.
We can see in figure 1 that crude oil and Australian petrol prices track each other closely. The correlation between May 1998 and January 2016 is 0.929 (1 being a perfect correlation and 0 being no correlation). This is hardly surprising as it is well known petrol is a derivative of crude oil.
It is interesting to note in figure 2 that the spread between crude oil and petrol prices has been widening with the correlation between crude oil and pump prices this decade falling to 0.77. This shows that local fuel prices are losing alignment with the crude oil price. This deteriorating correlation could be due to taxes and the reduction in local oil refining in Australia.
A percentile table can give an indication into whether a market has move movement to either the downside or upside. In figure 3, we can see that the crude oil percentile is at 10.9%, meaning that since 2000 crude oil prices have only been lower 10.9% of the time. The story is not quite so positive for Australian petrol prices, with the percentile at 41.3% implying that prices have been lower for 41.3% of the period.
A more detailed explanation of how to use a percentile table can be found here
Crude oil prices have been falling since 2014, with local fuel prices following this trend albeit with a lower correlation than in the past.
It is hard to predict where prices will travel in the future. However, fuel prices are at low levels especially crude oil at a 10.9 percentile. It would be sensible to consider strategies to lock in these pricing levels. In our analysis next week, we will examine opportunities for hedging both fuel and fertilizer inputs.
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