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Why Crude Could Fall to $90

Roger Milley | Vetta | Getty Images

Higher-than-expected inflation numbers from China weighed on crude oil futures Friday. Why? Well, the theory is that China will have considerably less room to ease if it is faced with inflation.

The news, of course, should negatively affect many commodity prices, but crude should feel a disproportionate effect, due to its recent price patterns. At yesterday's highs, crude had rallied almost 10.5 percent in just four weeks. The rally was largely based on a brighter global economic picture, particularly in China and Japan. A rally of this magnitude has a tendency to become crowded quickly, which can create a potential for a quick market correction. Yesterday's failure to take out resistance levels sets the table for a move down to the $90.50 area in February crude.

Traders sometimes feel the need to make a broader economic argument to satisfy their short term thesis, and in this case, it isn't difficult. Ever-increasing domestic production from North Dakota oil fields should increase supply. In addition, the Saudi Arabian attempts to limit supply and support prices is probably in response to that decreases in demand that they are seeing. Lastly, although the correlation between natural gas and crude has mostly broken down over the last few year, the recent divergence between the two has been so dramatic that it probably should not be ignored.

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