The wise guys, or supply and demand?
Ed Wallace in Business Week thinks that the markets are a bit rigged in oil:
“One of the things I think is very important to realize is that the growth in the world oil consumption is not that strong.” — David Kelly, chief market strategist, J.P. Morgan Funds; The Washington Post, May 4, 2008….On May 2, the Friday before [the Lehman $80] prediction made news, Bloomberg had reported that Iran is again storing its heavy crude on tankers in the Persian Gulf because the country has run out of onshore storage tanks while awaiting buyers. Further, Saudi Arabia has extended discounts on its sour crudes to $7.45 for Arabian Heavy. Doesn’t sound like there’s any real supply problem with that grade of crude, does it?
It is an understatement to say that over the last five years the media have rained reports predicting an impending energy Armageddon. But those reports have tended not to disclose their sources—which often were individuals heavily invested in the oil futures market.
For example, Goldman Sachs was one of the founding partners of online commodities and futures marketplace Intercontinental Exchange (ICE). And ICE has been a primary focus of recent congressional investigations; it was named both in the Senate’s Permanent Subcommittee on Investigations’ June 27, 2006, Staff Report and in the House Committee on Energy & Commerce’s hearing last December. Those investigations looked into the unregulated trading in energy futures, and both concluded that energy prices’ climb to stratospheric heights has been driven by the billions of dollars’ worth of oil and natural gas futures contracts being placed on the ICE—which is not regulated by the Commodities Futures Trading Commission.
In case you’ve forgotten, it was only 2001 when Business Week reported that some Wall Street firms were hard-selling to the public stocks that their companies were quietly divesting—and/or pushing questionable stocks for companies in which their affiliated banks had a financial interest. In a nutshell, some individuals with a specific vested interest in a certain financial outcome used the media to enrich themselves and their companies, leaving the public investor holding the bag.
Once that deception was uncovered (after the stock market collapsed), and after the congressional hearings in 2001 proved beyond any doubt that these things had happened, the national media swore that they would never again be taken in by this type of corporate deceit. Then came 2004 and oil.
As the second quote at the beginning of this column makes clear, the Senate pointed out in its 2006 report that oil reserves (not including the Strategic Petroleum Reserve) were at a 20-year high during the time that report was written; therefore, there was no shortage of oil whatsoever. This seemed to confirm a Jan. 10, 2007, article in Reuters that quoted Tony Nunan, a risk manager at Mitsubishi: “We’ve got a short-term [oil] oversupply problem.” Yes, an oil oversupply problem in fall of 2006.
Then, as now, that certainly isn’t what we were being told. Instead we were being bombarded daily in the media and analysts’ reports with justifications for the high price of oil: The “terrorism premium” on each barrel of oil, the rising demand of China and India, troubles in the Nigerian oil patch, oil pipelines’ being blown up in Iraq, wider war in the Middle East, T. Boone Pickens’ warnings that the world was on the cusp of Peak Oil, “surging demand” for gasoline in the U.S., the weak dollar—and so on. (Peak oil is described as the world crossing the halfway mark for extracting its oil reserves. It is not maximum production.) However, the Senate took a dim view of those excuses, particularly the ones about Peak Oil or diminished capacity for oil production: “There’s a few hedge fund managers out there who are masters at knowing how to exploit the peak [oil] theories and hot buttons of supply and demand, and by making bold predictions of shocking price advancements to come, they only add more fuel to the bullish fire in a sort of self-fulfilling prophecy.” (The Role of Market Speculation in Rising Oil and Gas Prices, U.S. Senate, June 27, 2006).
We don’t know with any certainty which scenario for oil is true, but it is certainly of some note that many of the prognosticators have a monetary stake in the matter when they make a prediction. Goldman Sachs would appear to have a particularly delicate position, given its prediction of another spike, its non-publicly disclosed bets on the direction of the oil market, and the prominence of its former senior executives at the highest level of economic policy in the US. It all feels a bit unseemly.
May 15th, 2008 at 12:18 am
The BusinessWeek article overreaches and reduces its credibility thereby. The concluding sentences:
This sounds too pat. And how, exactly, should ‘unregulated commodities’ be ‘restrained’?
Jack’s formulation is more circumspect than Wallace’s:
That’s a plausible interpretation. By those lights, the Goldman prediction may be laying the groundwork for offloading the overpriced assets onto the public–though I’d expect more of that to be going on than I’ve noticed to date.
Other interpretations that come to mind are discounting of a major Mideast war, and price-fixing by oil producers who are de facto abetted by Western environmentalist special interests.
Maybe all three interpretations above, independently or collusively, are among the factors that are driving prices.
May 15th, 2008 at 7:03 am
I should have said ‘four interpretations’: supply and demand; manipulated futures markets; price-fixing by oil producers; and the markets’ pricing the likelihood of major supply disruptions.
May 16th, 2008 at 12:08 am
Oil prices will drop once the US election is over. I suspect there is a political reason why Iran is stockpiling oil, taking it off the market. This may well be happening with other jurisdictions that seek to influence oil prices, and by default impact the US economy. Domestically the Fed is stimulating the economy going into an election period (with the associated drop in the US dollar) while hedge funds and related international interests are playing the game of stimulating the price of oil as a riskless play.
As it becomes clear whether McCain has a lock on the Presidency, the hedge funds and related international interests will have to engineer an early exit from their positions because the expected direction of the price of oil will be down. The hoarders will have to unwind their stocks or see them drop in value.