Short -term forecasttng of crude oil prices in Kenya

Abstract

Today the world has become more.complex, more fast-paced and more competitive than ever before. Forecastinghas, therefore, become necessary in order to meet conditions of the future for which we have imperfect knowledge. Of late, crude oil prices have risen significantly thus attracting a lot of attention from consumers and the general public at large. There are, of course, considerable risks posed by the volatile crude oil prices to the importing entities as well to the economy as a whole. Hedging on futures is one of the effective risk management strategies available to reduce the risks associated with volatile crude oil prices. Scholars have, however, acknowledged the dilemma faced by the oil importing entities in the use of futures and options as this could lead to criticism and negative publicity if the importing entity was to "lock in" the price of the crude oil and then later the spot price went down. The challenge that exists, therefore, is to convert the information present in futures prices into specific spot price forecast. Most of the market participants understand that current futures prices provide important information about cash prices on the future dates. However, these participants need to be able to forecast a cash or spot price at a location and time when they plan to buy or sell. This study set out to develop a model that could be used in the short-term forecasting of crude oil spot prices in Kenya. The study involved analyzing the basis time series utilizing the Univariate Box-Jenkins Auto-Regressive Integrated Moving Average (UBJARIMA) methodology. The weekly Murban crude spot prices and the West Texas Intermediate (WTI) weekly futures prices were used for the study. Approximately 80 percent of the crude oil imported into Kenya is the Murban crude. For this reason, its weekly prices were preferred. The WTI futures were used since it is the most traded crude and its futures prices are easily available. The study found out that it was possible to utilize the basis to prepare forecasts of the Murban crude oil spot prices. However, forecasts would have to be interpreted in the context of the existing market conditions since the accuracy of the forecasts could rapidly decrease as more information become available. Further research work is recommended in looking into how local currency' fluctuations against the US dollar affects crude oil prices in Kenya.