Friday, July 31, 2009

Oil's Artieries Getting Clogged

(Big warning: Wheeww... this went far further than originally envisioned, but it's worth it. Grab some potent caffeine or relax with some fine wine, sit back and learn.)

Demand is down, supplies are bloated but price seems to defy conventional wisdom. This blog has been adamant of an inevitable price drop. Perhaps some think Brewskie's a crazy fool: "That coot has no idea what he's talking about!" Be as it may, the law of ECON 101 is this: an entity or entities - be it government authority or manipulative market speculators - can defy "supply and demand" fundementals for a while, but in the end, fundementals always comes back to bit you.

Here's several articles predicting a looming drop.

OPEC is beginning to think the supply waves are making the rats sea sick:

The Organization of Petroleum Exporting Countries is bracing for a sharp drop in crude prices in coming weeks, as huge reserves of oil-based fuels continue to pile up and the space to store them runs out.

Stockpiles of fuels such as diesel and heating oil are at a 24-year high in the U.S. because of tepid demand from industries and consumers hammered by the global economic downturn. Conditions in the futures market have also made it very profitable for traders to store these fuels, known as distillates.

So far OPEC has been able to head off a sustained collapse in oil prices through big production cuts, and U.S. oil prices have shrugged off the excess supply, taking their cue from rising stock markets and investors' expectations of an economic recovery.

But if the anticipated economic turnaround doesn't materialize to soak up the growing distillate glut, as some OPEC officials fear, supplies will grow even larger, dragging down oil prices despite the cartel's efforts.


This concern is prompting some at OPEC, whose 12 members pump about four of every 10 barrels of oil consumed around the world every day, to consider further output reductions. The OPEC official wouldn't rule out an agreement to cut production at the group's next policy meeting Sept. 9.

But any further announced cuts may not have much market credibility. Some OPEC members, including Angola, Iran and Venezuela, are already selling more barrels than they agreed to in order to capture more revenue. Some members, like Saudi Arabia, may have no appetite for more reductions when other OPEC nations are shirking their commitments.


Although refiners have been running their plants well below last year's levels for some time, the cuts haven't been enough to offset dismal demand for diesel and other fuels. Last week, distillate demand dropped 15% from the same period in 2008.

Futures prices have also contributed to the build-up in U.S. fuel supplies. Prices for heating-oil deliveries farther out into the future have been sharply higher than prices for near-term contracts. The wide difference in prices, plus low interest rates, has encouraged traders to buy distillates, store them and enter into contracts to sell them in the future for a higher price.

"They've got huge forward premiums," said Jim Ritterbusch, who runs an oil-trading advisory firm in Galena, Ill.

As a result, distillate stocks surged to 160.5 million barrels last week, 25% higher than during the same period last year and the highest level since 1985.

Here's another blip of OPEC getting jittery:

Well, OPEC is not relaxing. This summer, the oil cartel is concerned about a substantial drop in the price of oil in the weeks ahead. That's correct: OPEC is concerned about prices plummeting.

The price of oil has risen 20 percent in two weeks to over $68 per barrel. It shows no sign of a sustained easing, despite the global recession, and yet producers of 40 percent of the world's oil are fearing a price collapse. Is OPEC disconnected from reality or are they on to something?

U.S. inventories of key fuels such as diesel and heating oil are at 24-year highs, according to data compiled by the U.S. Energy Information Agency. Meanwhile gasoline demand remains flat to barely rising, on a year-over-year basis. Demand for all of the above has been hurt by the recession, and OPEC fears if demand soon doesn't materialize to use the record-high stored oil, a major price break to the downside will ensue.

OPEC is predicting it will be at least four years before oil demand recovers to 2008 levels:

OPEC says that demand for its crude has fallen so sharply because of the
world recession that it will take another four years to recover to 2008 levels.

The forecast is one of several in OPEC annual report on oil supply and demand outlook to 2030 that reflects how the global recession has crimped the world's appetite for energy.

The report says the world will need 87.9 million barrels of crude a day by 2013 — nearly 6 million barrels less than previously expected. OPEC would need to produce 31 million barrels a day for its share compared to a daily 31.2 million barrels last year.

Let's not forget University of Calgary professor Phillip Verleger's latest bet that oil is set to crater:

A crude surplus of 100 million barrels will accumulate by the end of the year, training global storage capacity and sending prices to a seven-year low, said Verleger, who correctly predicted in 2007 that prices were set to exceed $100. Supply is outpacing demand by about 1 million barrels a day, he said.

“The economic situation is not getting better,” Verleger, 64, a professor at the niversity of Calgary and head of consultant PKVerleger LLC, said in a telephone nterview yesterday. “Global refinery runs are going to be much lower in the fall. If the recession continues and it’s a warm winter, it’s going to be devastating.”

Getting sick of dirty speculation? So is Washington:

Federal regulators moved closer on Tuesday to issuing new rules to limit oil speculation, addressing concerns that Wall Street firms may have manipulated
the price of oil through financial trading.

The Commodity Futures Trading Commission held the first of three hearings to explore ways to keep financial firms from amassing such large positions in energy markets that they have outsized power to affect prices.


Concerns that speculators were influencing oil prices bubbled up last summer when the price of a barrel of oil spiked to an all-time high. At the time, the CFTC leadership was not interested in pursuing new regulations to limit speculation. And the agency issued a controversial report suggesting that the rising oil prices were the result of natural factors of supply and demand.

Gensler, who became chairman in May, has said he thinks speculators
have helped to boost the price of oil. In the interview, he said he hopes that his agency could officially propose new rules in the fall to govern energy speculation. The price of oil has increased by about 50 percent this year.

One factor that may play into the debate is a report the CFTC is scheduled to release next month about the types of firms, such as banks and hedge funds, that hold big positions in energy investments. CFTC officials said the report, which will be updated periodically, is not expected to cast judgment on whether speculation is influencing oil prices. If, however, it shows that few players dominate the market, the information could be used by those who support curbs on oil speculation.


Testifying at Tuesday's CFTC hearing were several key market participants,
including the Petroleum Marketers Association of America, which represents companies that buy fuel. The association endorsed new limits.

"It is abundantly clear that large-scale, institutional investors speculating in the energy markets continue to act as the driving force behind energy prices," said Sean Cota, treasurer of the association.

Just how big of finks are the rats?

This time, Wall Street speculators — some of them recipients of billions of dollars in taxpayers' bailout money — may be to blame.

Big Wall Street banks such as Goldman Sachs & Co., Morgan Stanley and others are able to sidestep the regulations that limit investments in commodities such as oil, and they're investing on behalf of pension funds, endowments, hedge funds and other big institutional investors, in part as a hedge against rising inflation.

These investors now far outnumber big fuel consumers such as airlines and trucking companies, which try to protect themselves against price swings, and they're betting that the economy eventually will rebound, that the Obama administration's spending policies and Federal Reserve actions will trigger inflation — or both — and that oil prices will rise.

I posted this 60 Minutes clip about last year's speculative-fueled oil price climb several times; here's some noteworthy words...

"Approximately 60 to 70 percent of the oil contracts in the futures markets are now held by speculative entities. Not by companies that need oil, not by the airlines, not by the oil companies. But by investors that are looking to make money from their speculative positions," Gilligan explained.

Gilligan said these investors don't actually take delivery of the oil. "All they do is buy the paper, and hope that they can sell it for more than they paid for it. Before they have to take delivery."

"They're trying to make money on the market for oil?" Kroft asked."Absolutely," Gilligan replied. "On the volatility that exists in the market. They make it going up and down."

Here's an article from last year that describes how active Morgan Stanley is in oil speculation ALONE:

Morgan Stanley is now a major provider to wholesalers of heating oil in the Northeastern U.S. It has custody of a quarter of America's strategic reserve of
home heating oil. And it is the second-most-active U.S. seller of electric power, ahead of scores of utilities, according to Federal Energy Regulatory Commission rankings.

Here's an article I found off of Peak Oil Debunked. Isn't this a coincidence? Major Wall Street banks started getting into the oil game around 2004!

A LARGE WAREHOUSE in Amsterdam may seem an unusual place to attract the City’s top traders and hedge funds. But, in the past few months, Morgan Stanley has been accumulating warehouse space in the Netherlands to store its hottest new property — oil.


Morgan Stanley may be among the most advanced of the new breed of oil speculators, but, over the past year, many banks and hedge funds have joined the
“black gold rush”. With the stock market proving lacklustre, the oil market has been a godsend for the banks, which describe it as the “new Nasdaq”.

Speculators have helped to drive oil prices to near record levels — peaking at almost $50 a barrel last month. Oil is the talk of the City with many millions of pounds being made every day, and oil traders are among the most sought-after employees.


However, this traditional equilibrium has been rocked by short-term speculators dipping in and out of the futures market. This has led to sharp rises in the price and far more volatility. Meanwhile, banks such as Morgan Stanley are also beginning to move into the physical market to buy oil — or even entire oilfields.

Morgan Stanley recently won the contract to supply fuel to United Airlines, and Goldman Sachs recently bought 10m barrels of oil.

A senior oil company executive said: “Even within this firm, the mechanics of the market are not widely understood. When oil prices go up, everyone talks about fundamentals and geopolitics, but the role of speculators and banks is now very significant.”

Brewskie thought: Again, it will be made very clear that oil's recent price climb has had nadda bearing on my life. In fact, as I've posted in the past, the $100+ bs of last year was something barely noticed in my budget, so I could care less if oil sits in the $60-$70 price-range; it can sit here permanently for all I care. In fact, if you look on the bright side, higher energy prices increase people's interest and motivation in energy, in alternative energy. Let's not forget what happened last fall when oil dropped below $100 per barrel: people thought it was a bargain. So is $60-$70 oil expensive? Hardly, please.

In the end, I'm simply making a logical argument that, oil's recent price has been tied to manipulative market speculation, not true supply and demand fundamentals; thus, it's in my strongest belief oil's price will inevitably drop.

Thanks for your distracted attention!

- Brewskie


  1. Excellent post. I, too, wonder mightily at the oil price spike, and its recent trading range. Speculation/manipulation I would guess.
    But, in the longer run, I think OPEC is slitting its own throat. They have to keep oil reliable and cheap. or continuously lose market share. Since OPEC is essentially a loose confederation of thug states, I suspect we will see erratically higher prices, and a permanently shrinking market share for oil. In 10-15 years, oil will be much less important to the world' economy.
    The Oil Era is passing, and with a whimper, not a bang. PHEVs, CNGs, maybe even lignite oil, biofuels, who knows?
    The lesson of markets: If you want to keep your markets you have to serve your markets. OPEC is not doing that. So they lose their market.

  2. Benjamin,

    If non-OPEC production and OECD statistics have been any indicator for the past few years: oil demand seems capable of dropping a lot faster than production is. Developed nations are dropping appetite for oil, and demonstrating a hunger to power societies on a healthier petroleum diet; even China (who's demand is up) has yearned to get into shape. A great point JD (who lives in Japan) recently made: peak demand in respect to Japan - which saw demand peak in 1996, and has dropped every year since.

    Again, judging from the past and present, it seems safe to say oil speculators, not eventual peak oil, will be the real nuisance; and market manipulators is a controllable pest infestation.

  3. +$3,624 PROFIT last week!

    Receive 5 Star verified winning picks on MLB, NHL, NBA & NFL + Anti-Vegas Smart Money Signals!!!

  4. eToro is the #1 forex trading platform for new and pro traders.