For most of this year, oil was on a rampage leading some to think that what goes up doesn't always come down. In a world saturated by greed, it was plausible that oil demand would remain robust despite the global downturn.

But market conditions were not the only driver of US$147 per barrel oil. Credible institutions and analysts were guilty of speculating US$200 oil, inflating prices for selfish reasons. "Doom and gloom" spread through the market and news about soaring oil prices became exhausting. A day couldn't pass without CNBC stating new oil HIs in bright orange bold letters.

However, no one is talking about oil now. Its drastic decline of over 70 per cent since its record HI in mid-July has left the market speechless. But is this steep fall in prices that surprising? Not really. History has proven to be the most accurate fortune teller. The energy crisis in the early '70s and '80s is a clear indication of where oil is heading now, and investors should start taking positions cautiously.

The first energy crisis in the early '70s (which was much milder than the one we are facing now) gave the world a taste of what happens when oil's supply and demand are altered. It started when Syria and Egypt attacked Israel in 1973 and the US and a number of other Western countries stepped in to support Israel. The Arab exporting nations responded immediately imposing an embargo on those who sided with their enemy. They then curtailed production by 5mm barrels per day, causing a severe shortage of oil which continued through March of 1974. The extreme sensitivity of oil prices to weakened supply became all too apparent. Prices increased close to 300 per cent between 1972 when the world price of crude oil was approximately US$14.00 per barrel and by the end of 1974, the price climbed to over US$41.00 per barrel.

Just a few years later, the world once again was faced with dwindling supply, only the effect was much worse than before. Oil prices shot through the roof, similar to what we saw in July of this year. The Iranian revolution in 1978 was to blame and the country's oil production declined by 2-2.5 million barrels of oil per day. But Iran's invasion by Iraq in September 1980 only made matters worse and by November, the combined production of both countries was only one million barrels of oil per day. As a result, crude oil prices soared 123 per cent from approximately US$31 in 1978 to US$69 per barrel in 1981. But oil declined after hitting its high at the time, free-falling to US$20 per barrel in 1986.

Oil has seen a very similar trend in its price within the past year and a half, climbing close to 140 per cent to its all-time high of US$147 on July 11, 2008 from approximately US$60 in June 2007. However, this time around the US financial crisis is the culprit and it's no longer a supply issue but a matter of weakening demand, eroded investor confidence and the global recession. In September 2008, when the US crisis worsened significantly, oil prices took a hit like it did in 1986, and have been tumbling ever since, trading as low as US$30.50.

OPEC recently tried to pull the reins on oil supply again but didn't get the outcome it was hoping for. The oil cartel, which produces approximately 40 per cent of the world's oil, said last week it would slash production by a record 2.2 million barrels per day. The aim was to decrease supply so that prices would work their way back up, but instead they continued to fall, hitting a four-year low the day after the cut. Even yesterday, oil prices continued to slide on speculation that OPEC will be unable to boost prices in the short term, as the global recession curbs demand faster than the group can cut production.

Like everything else, oil prices move in cycles and history repeats itself. The only difference between the energy crisis in the '80s and now is that it took a long time for oil prices to rebound. Oil prices were suppressed because even though OPEC implemented production quotas to stabilize prices, countries kept breaking the rules and producing more than they were allowed. As a result, oil prices remained below US$30 per barrel throughout the '90s. However, given the type of crisis that the world is in now, SSL expects oil to rebound sooner rather than later.

Every day the news talks about everything else except oil and SSL is going against the curve. It is likely that the Dow will fall to the 6,600 levels as the economic crisis worsens, and so investors should be looking to LONG oil at US$36 and below.

Michelle Hirst is the research manager at Stocks & Securities Ltd. e-mail: mhirst@gostocksandsecurities.com

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