Oil Speculation

Hello everyone. Its been awhile since I last made my post due to the holiday weekend and other more important endeavors. Last week, the CFTC and others have proposed some tougher restrictions on speculators in the energy sector commodities. This seems like an easy move. A move made to keep the dogs at bay in response to the run up of oil prices last year to $140 per barrel. On the surface, it looks and feels good.

Below the surface, it is emitting a foul odor. A lot of blame has been put at the feet of the speculator for the run up last year. I would also say that run up of prices was a temporary spike and feeling that the current supply/demand picture of oil was out of whack. Oil is a finite resource. Most of it has been drilled and a good chunk of it is coming from hostile and politically unstable countries. Nigeria is a prime example. How many times do you hear about stories of refineries being attacked? Its like a broken record, over and over again. On the demand side and what a large portion of our government wants to ignore is that China and India are growing very fast. That growth requires substantial amounts of energy. Even scarier is that a large portion of their populations don't own cars.

So what purpose does speculators have in the market? They are essentially the smaller third player in the market. There are the large index or hedge funds and on the other side is the commercial hedger booking their oil for future requirements. The speculator can drive markets but eventually, they don't have enough fire power to withstand the "strong hands", the funds and the commercials. For the layman, I could control 42,000 gallons of oil but simply putting up about $10,000 to buy a futures contract, which is tremendous leverage. Last summer, the market felt that given the demand and shrinking supply, the proper price for oil was $140 per barrel. Shortly after that, the economy began to tank and with that the speculators were wiped from the market. The price of oil plummented to $36 per barrel. We call this price discovery. Now the oil price has risen back up to the $60-$70 range but its not $140.

I feel there is always a need for some speculation in any market to allow another opinion on price just like there is in the stock market. The key question is toggling that leverage or margin to make it a bit more harder to manipulate the market the way it was last summer. Those hedge and index funds have lower margins than the speculator. Let's make them pony up some more funds to play in the game.

Stay tuned for next week's post as I'll delve more into oil, its supply and demand picture and how this hits your pocketbook/wallet. Cheers!