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Oil Speculators Aren’t The Problem

By JLP | June 30, 2008

There’s a very interesting Fortune article entitled In Defense of Oil ‘Speculators’ that I recommend checking out.

I am not an expert on the energy markets, and therefore I appreciated this article, which explains in simple terms some basic economic and futures trading principles – and common misconceptions. Here are a few interesting quotes:

If our representatives did understand the oil markets, they’d know that the true telltale sign of a speculative bubble is not rising trading volumes but rising oil inventories. Speculators would be hoarding oil – building up inventories either in anticipation of higher prices or as part of a scheme to drive prices there. Yet according to the Department of Energy, U.S. oil inventories are now at below-average levels. U.S. oil stocks stand at 309 million barrels, versus 330 million in June 2005.

By providing a mechanism for locking in prices, the futures market makes it easier for oil companies to make costly investments in new production – which is the key to lowering prices at the pump.

Futures trading also discourages hoarding in an otherwise tight market. Without speculators willing to take the other side of so many futures contracts, oil refiners and other end-users might be inclined to ramp up their spot-market purchases and store more oil as a hedge against further price increases.

Even if you believe there’s no way that oil trading volumes could be soaring without influencing oil prices, remember that influence then has to run two ways.

If an index fund is indirectly driving up spot oil prices every time it buys a future, then the converse must be true, too – there must be an equal and opposite downward push on spot prices every time that future is sold. In other words, futures market critics can’t have it both ways.

There’s something else politicians conveniently overlook: futures trading requires two to tango. For every investor who is betting oil prices will go up, there also needs to be an investor willing to take the opposite side of that bet.

There is a lot more in the article itself. Read it for yourself and share your thoughts. Do you think oil speculators are to blame for volatility in the energy market? And, more importantly, what effect do you think increased congressional legislation on the matter will have?

More from Meg at The World of Wealth

Topics: Miscellaneous | 5 Comments »


5 Responses to “Oil Speculators Aren’t The Problem”

  1. Philip Says:
    June 30th, 2008 at 3:08 pm

    There are just too many different articles that still appear to be legitimate that I don’t know what to think. I like to see what people speak that goes beyond the politicians speaking that don’t know as much as they try to show.

  2. Phil Says:
    July 1st, 2008 at 4:08 am

    While Oil Speculators are not *THE* problem, they are certainly part of it:
    “Is Oil the Next ‘Bubble’ to Pop?”, Wall Street Journal, 2008-06-04. – Where it’s stated, “Lehman Brothers cites evidence that institutional investors, including sovereign-wealth funds, have been increasing their exposure to commodities. The investment house calculates that from January 2006 to mid-April 2008, more than $90 billion of incremental investor flows was devoted to assets under management by commodity indexes. It said for every $100 million in new inflows, the price of West Texas Intermediate, the U.S. benchmark, increased by 1.6%.”

    See also the Econobrowser web site: http://www.econbrowser.com/archives/2008/05/oil_bubble.html

    But then a better article on the Econobrowser discusses oil pricing fundamentals to give a more rounded picture:
    http://www.econbrowser.com/archives/2008/05/oil_price_funda.html

  3. TIL Says:
    July 1st, 2008 at 9:16 am

    If speculators are not the problem, why does oil go up $5 even $10 in a day, when there is no change in supply and demand?

  4. "Mo" Money Says:
    July 1st, 2008 at 12:43 pm

    I don’t beleive that the speculators are not the problem. But in this complex issue, they are certainly part of the problem. My understanding is they buy futures on 5% margin. Just the name speculator says they are looking to make money with out actually buying anything!

  5. Billm Says:
    July 1st, 2008 at 4:13 pm

    Supply and Demand Sets Oil Prices – If You Believe That, I have a Bridge in Brooklyn I Want to Sell You!

    Next time you have to buy diesel fuel, home heating oil or $4 plus gasoline. Ask yourself this question: Are crude oil, heating oil, diesel fuel and gasoline necessities, or just ordinary speculative commodities? If they’re the former, how can they be the latter? How can anyone buy into supply and demand setting oil prices when the markets are overwhelmed by small speculators, institutional investors, commodity index funds, large hedge funds and Wall Street investment banks, all buying massive amounts of oil contracts? Why can’t the Bush administration and Congress see this fundamental problem? We also have the b.s. of “geo-political” concerns and government disseminated bogus “inventory” numbers. More on these factors at http://www.useconomycrisis.com

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