Posted on 03/12/2008 7:05:46 PM PDT by neverdem
Oil prices climbed to their highest level ever, reaching over $108 per barrel this week. And Americans are feeling this price spike at the pump, with gasoline averaging $3.22 per gallon. An analysis released by the investment firm Goldman Sachs suggested that oil prices might soar to $200 per barrel. Does this make sense?
Not really. Although U.S. crude oil inventories have fallen, gasoline inventories are at their highest since March, 1993, notes Tim Evans, an energy futures analyst at Citigroup's Futures Perspective. World oil production was up 2.5 percent in the first quarter of 2008 over the same period in 2007 while world oil consumption rose by just 2 percent. In fact, world production is projected to be 3.3 percent higher in the second quarter and 4.1 percent higher in the third quarter than the same periods a year ago. On the other hand, world demand is projected to rise by just 1.6 percent over the next six months.
In fact, demand is falling in some countries. According to economist John Kemp at the commodities firm Sempra Metals, the U.S. consumed 4 percent less petroleum in January 2008 than it did the year before. Evans agrees, noting that the U.S. demand for petroleum products began falling off last July. Interestingly, this drop in U.S. oil consumption began before crude prices turned vertical and before we began to see weakness in the broader economy. Even China's thirst for oil is abating somewhat. Its demand for oil, which once rose at 10 percent per year, has now dropped to 6 percent per year. In addition, world surplus oil production capacity has gone from a very tight 1.5 million barrels per day a couple of years ago to more than 3 million barrels today, says petroleum economist Michael Lynch.
So supply is up; relative demand is down and yet, the price of oil is soaring. What's going on? Last week, Exxon Mobil CEO Rex Tillerson blamed a third of the recent run up in oil prices on the weak dollar, another third on geopolitical uncertainty, and the rest on market speculation.
Let's start with geopolitical uncertainties. Last year, oil consumers watched warily as unrest in Nigeria's oil fields, the possibility of war between the U.S. and Iran, and the antics of Venezuela's Hugo Chavez threatened to disrupt oil supplies. That analysis may have once made sense, but most of those tensions have abated in recent months. Nevertheless, it remains true that most of the world's oil is produced in volatile regions and by erratic governments, so the price of crude must still include some kind of political risk premium.
What effect does the falling dollar have on the price of crude? Most oil price contracts are denominated in dollars. The dollar has fallen in value by more than 30 percent against a Federal Reserve index of major currencies since 2002. This means that the price of imports, including oil, have gone up. To some extent, the chief of the Organization of Petroleum Exporting Countries (OPEC) Chakib Khelil was correct when he said earlier this week, "What's happening in the oil market is due to the mismanagement of the U.S. economy." Continuing U.S. trade and fiscal deficits along with lower interest rates are stoking inflationary fears.
That brings us to speculation. Evans observes that since September 2003, the total number of open crude oil futures and options contracts rose by 364 percent. Meanwhile the global demand for petroleum rose by just 8.2 percent. "So the futures and options market has become more important than the physical supplies in driving the price," concludes Evans. "We are seeing investment flows into the oil market that don't have anything to do with the demand and supply of oil."
Investors are treating oil as a hedge against inflation and a falling dollar. Oil markets are part of a negative positive feedback loop in which higher oil prices contribute to higher inflation, which in turn lowers the value of the dollar, which boosts oil prices, and so forth. In other words, the oil market is coming to resemble the gold market (which has also been soaring). Evans notes that most gold traders don't even ask the question of how much gold was mined last year or how much spare gold mining capacity there is.
In the short run, oil prices are very inelastic: A large change in price produces only a small change in demand. If the price of gas goes up a dollar per gallon overnight, you still have to fill your tank to get to work. However, over the long run, consumers and producers respond to higher oil prices. For example, Americans are driving less and have switched to buying more fuel efficient cars.
Higher prices also encourage innovation. Economist Richard Rahn from the Institute for Global Economic Growth believes battery technologies are improving so rapidly that the majority of cars sold in 10 years will be all-electric. This would certainly help drive down the price of oil. Supply is also inelastic—it takes a long time to do the exploration, drilling, and refining necessary to boost production in response to higher prices. This inelasticity of demand and supply means that petroleum prices are very sensitive to relatively small changes in either. This means that prices can fall as steeply has they rose.
Whenever you begin to hear market gurus decree that "this time it's different," as we did during the dot-com bubble and the housing bubble, that's a sure sign of danger in the market. Naturally, proponents of the peak oil theory claim that the recent run up in prices is evidence that the end is nigh. Evans responds, "Fears of peak oil are what this market has in common with the 1980s, not what is different." Recall that during the "oil crisis" of the 1970s when oil prices were as high as they are today, U.S. oil consumption declined by 13 percent between 1973 and 1983. The higher prices of the 1970s led eventually to an oil glut and prices fell to about $10 a barrel by 1986.
So what will happen to oil prices over the next few years? No one is predicting $10 per barrel oil. However, once the current bubble bursts, both Evans and Lynch believe that the price of crude will settle at around $60 to $70 per barrel in the next couple of years. "It's very hard to pinpoint just how long a bubble can expand before it breaks. Getting the timing right is not an easy matter," says Evans. But he adds, "I think that this is the riskiest time to be long in crude oil since 1980."
Ronald Bailey is reason's science correspondent.
There are lots of incredibly smart people who post here on Free Republic.
Is there anyone out there who can explain to me in simple terms (cuz I am not so smart) how to bet against high priced oil in the commodities market?
I smell blood in the water and my shark genes are hungry!
Try reading the Wall Street Journal. That’s how Hillary figured out how to make $100,000 in cattle futures. ;)
Yeah, I should ask Hillary. She is is a commodities bribe taker, oops I meant investor.
Very risky, and you have to be able to put up 10% of the contract's value, more if the price continues to rise.
Buy my gold stocks?
Short sell. Just keep in mind that there's no theoretical limit to the amount of money you can lose doing so.
Economist Richard Rahn from the Institute for Global Economic Growth believes battery technologies are improving so rapidly that the majority of cars sold in 10 years will be all-electric.what a moron. not even in TWENTY years...
we don't have the capacity and building more electric plants isn't any more possible than building more refineries let alone new nuke plants.
The stock symbol USO is an exchange traded fund that tracks the price of oil fairly well. Either short USO stock (which I’m not sure you can do) or buy put options on USO (which you can certainly do).
Disclaimer: I’m not an investment adviser in any way, shape, or form.
It’s called selling short.
But I don’t know how to do it.
Rush talks about it somtimes.
here in northern michigan prices have spiked in the last day. It is now at $4.19 up from $3.39 just two days ago.
The real reason is that the OPEC (THE SAUDIS) said NO! when Bush begged for some relief (increased production) last week.
And Cheney is going over there to BEG as well.
Face it: we are DEPENDENT ON OPEC! Why is that soooo hard for some to understand???
DEPENDENT AND BEING SLOWLY STRANGLED BY OPEC TRILLIIANS.
I hope this bubble pops like a zit on an 8th grader!
How is all this better than imperialism? Why do we permit Iraq to stay in OPEC? Why do we not tax Iraqi oil revenues until all our expenses are paid in full?
“That brings us to speculation. Evans observes that since September 2003, the total number of open crude oil futures and options contracts rose by 364 percent. Meanwhile the global demand for petroleum rose by just 8.2 percent. “So the futures and options market has become more important than the physical supplies in driving the price,” concludes Evans. “We are seeing investment flows into the oil market that don’t have anything to do with the demand and supply of oil.”
However, speculation IS DEMAND. If speculators are willing to pay cash to buy oil, intending to store it to sell later, their money is jst as good as that of someone who is buying for immediate use.
Speculators cannot change the real price in the long run. They have storage costs that are eating into their potential profits. If they are right about the direction of the market, they smooth price movements. If they are wrong, they exaggerate them.
You can buy puts of an oil ETF such as USO. However, options are usually for very experienced investors.
Oil is going to crash I believe, and it will take a few months. The US is slowing demand very hard as noticed in the supply chain. I would not venture into the oil market at this point. (Or the gold market).
find a broker to explain short selling and puts.
One more thing ... buying the puts is the least risky way to do it. You could loose alot more than you have by shorting stock or futures contracts. But you can only loose the price of the options if you buy the puts.
FOR EXAMPLE:
Closing price today for USO was $86.95 per share ... and the price for the Oct09 70 put is $2.80. So for $280 you can sell someone 100 shares of USO for $70 a share anytime between now and the 3rd Friday in October. If you believe oil is gonna tank in the next 6 months then that is how you would play it. You could loose at most $280.
If you believe oil is gonna tank by
ping to self.
Simply open a trading account with any commodities firm.
The contract is 1000 barrels, so its total worth is now about $107,000. You’ll have to put up about $15-20,000 as margin, so your leverage is about 6:1.
THAT MEANS for every dollar the price of a barrel of oil goes up, you make $1000 - BUT it also works the other way. So you can make a lot - or lose a lot - very quickly.
Also be aware that you’re swimming with some pretty big fish if you do this.
I don't think there are any storage costs involved. A lot of these bets are just paper that can be traded to others at any time before delivery is made.
The idea that someone who bought a futures contract on corn and neglects to exercise the contract in time will find a trainload of corn on his door the next day is an urban legend.
At some point the music will stop and someone will be stuck with a piece of paper that is worthless.
The idea is to be the next to last person that owns that piece of paper.
Supply and demand works not just for commodities but for monetary considerations. When you print more money and put it into circulation chasing the same goods, the price goes up. Its is called inflation. That the US$ is dropping at the same time is not an accident, but again the same law of supply and demand.
I have said for a year that the price is being manipulated by the commodities speculators in the market.
Glad to see I was right. No one believed me.
Revisit this thread come July. That's when the oil companies will trot out the old line about "increased demand due to holiday driving." If the price gives any hint of dropping, there will be a convenient "refinery fire," or a pipeline leak, or some other excuse.
Mark my words.
“is there anyone out there who can explain to me...how to bet against high-price oil in the commodities market?”
dial 1-800-hillary!
I shall.
There is another reason that is not mentioned. If we had started drilling in ANWR 6 years ago we would probably be producing 1-2 million barrels more per day domestically. Since futures markets are now controlling the price, imagine where we would be if that extra production were brought online now.
Another reason for oil to fall is that Iraq has just increased production above where it was pre-Saddam invasion. They have the ability, with the proper investment and infrastructure to produce up to 10 million barrels per day, right now they are at about 3 million.
Another reason for the ‘speculative demand’ is that if you read any of the financial planning trade journals (i.e.-Financial Advisor, Advisor Today, etc.), investment managers are told that 4-5% of assets in commodities helps to reduce overall volatility of an investment portfolio. Given about $20 trillion in invested assets, it doesn’t take a math genious to figure out that 5% of that is $1 trillion in new money coming into Gold, Oil, Wheat, etc.
While some of this is speculative, a lot of it will be long-term holdings. For example, beside the USO ETF mentioned above, you can buy something like the PIMCO Commodity Real Return Fund as a mutual fund.
One thing I wish the administration would do immediately is to increase the margin requirement on the energy futures contracts. That would reduce the effect of this money coming into the market.
My broker speculated in late 1993 that the print would far out-weigh the demand. He was right.
Actually, they can. There isn’t enough surplus oil to circumvent their setting the price, and those who COULD overcome the hoarding have no interest in doing so.
Everybody is ready to pay whatever the “market” price is, so if the speculators can drive up the “market” price, there is nobody to undercut that price.
In a traditional market, some small company would price better in the hopes of stealing market share. But you don’t “produce” oil, you mine it, and a company can’t really steal the market. There isnt enough surplus oil to do that. And since you can hardly drill anywhere to build up your own supply, there’s no value in stealing market share.
A couple of thoughts:
1. invest in battery companies - since the technology will move that way to replace oil with electric
2. invest in utilities that burn oil and natural gas for electricity - when the oil prices come down and natural gas with it, their fuel costs will go down and profits up
3. start stocking up on SUVs currently on the market, and open a used SUV lot when gas prices go down and demand for safe cars goes back up
Oops, 2003!
“what a moron. not even in TWENTY years..”
Actually, the Chevy Volt concept car that they are working hard to get into production could be a practical, useful, gasoline-electric vehicle. It has an electric drive motor and a gasoline engine which can recharge the batteries if you can’t plug it in to recharge, say if you are on a long trip. But it has enough range for most commutes — about 40 miles. And all the technology, including the battery technology, is available today.
Also, as far as powerplant capacity, you can plug it into a standard 115V, 20 Amp outlet at night to recharge when all the electrical plants are operating at 20% or less of peak.
I was pretty skeptical myself, but it’s worth a look. Google it, there’s tons of info out there.
Batteries are set to get whacked this year. All manufacturers will be for the responsible for the recycling of their product by law. 08/08
“Try reading the Wall Street Journal. That’s how Hillary figured out how to make $100,000 in cattle futures. ;)”
I thought that only worked with cattle futures and only for Hillary.
btt
You lose the full price of the put, but you risk is limited to that amount. Upside is potentially large.
Options can be the lottery ticket of the investment world. This is an example of such a financial instrument.
You will need to qualify to trade options. That usually requires you to have a minimum balance and some sort of trading knowledge.
The options/derivative world is full of jargon. Don't invest in anything you don't understand. Don't take this as investment advice. IANAB
OK, invest in the companies working on plastic/polymer batteries.
All cars would need to have a universal battery design and installation method. Similar to “D” cell batteries (if we take flashlights for example).
When your car or truck gets low you pull in to the Shell station (or any station you can think of), pull up to a designated spot, automatically open your hood, and a robot arm (like you would see on an assembly line), would pull your battery out (or two batteries if you have a big truck) and set it on the recharging racks, and put a new battery(s) in your car and off you go (after you swipe you debit/credit card).
Something like those Propane tank transfer stations you see at the gas stations these days.
i believe in the car, just not the capacity to produce the juice... lotta people work nights too and northern cold/sub-zero weather and batteries aren't a good mix. if he said 30% in ten years, i'd still say that was a stretch, but majority i just don't see happening.
Just because we have given up doesn't mean that Asia will fold any time soon. Japan and Korea are pulling China into the nuclear age fast. In twenty years all of Asia will be wall-to-wall reactors, and if we're lucky Toyota may put us to work building cheap electric cars for the Asian market.
First explain what “betting against high priced oil” means to you.
Just because we have given up doesn't mean that Asia will fold any time soon. Japan and Korea are pulling China into the nuclear age fast. In twenty years all of Asia will be wall-to-wall reactors, and if we're lucky Toyota may put us to work building cheap electric cars for the Asian market.
You could purchase Put options on oil futures, but you would have to open a futures trading account with an option trading agreement. This is something that is for a more sophisticated investor, but if you have the risk capital, it may be worth a look. That being said, many firms will not approve a novice for trading options on futures.
Another poster suggested that you could sell short oil futures, but this exposes you to (theoretically)unlimited risk if oil were to rise in price. By purchasing a Put option on oil, you can only lose what you invest (the purchase price of the option)so your potential loss is limited, and your Put becomes more valuable as the price of oil declines. But, this is an endeavor that should not be entered into lightly. Without some research and education on futures and options, you may as well drop the money at the craps table and take your chances there.
I’ve read the current 37 posts thus far, and still wondering if drilling in ANWR could benefit our high price situation if the oil is shipped to other Nations as is much of the oil production from the Alaskan oil fields (so I have read) today?
Logic tells me that if we serviced ourselves first, then any surplus could be sold to foreign Nations that perhaps we would not be turning our food grains into fuel.
As I’ve stated in previous posts, I’m not a market whiz kid so I’m simply asking a question I think is legitimate. Perhaps someone could enlighten me on this matter.
I look foward to the worker bees paying 9.00 a gallon.
MAYBE just MAYBE the realization that we should have gone to at least 15% alternatives fuels to kill speculators.
A 4.50 loaf of bread don’t look so bad compared to 200.00 to fill the tank!
Combined with 32M acres we pay NOT to Plant in just 2008!!!!
That's like investing in "emergency water making capsules" as a hedge against a drout.
The electricity stored in the battery comes mostly from oil or gas.
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