Showing posts with label Exchange traded funds. Show all posts
Showing posts with label Exchange traded funds. Show all posts

Saturday, November 05, 2011

Is "assetization" of Black Gold out of control?

Crude oil price should reflect a simple supply-demand equation, but it rarely does in the world of oil index funds, ETFs and loose foresight. Add to the mix an uncertain geopolitical climate and what you get is extreme market volatility. Especially since 2005, there have been record highs, followed by record lows and then yet another spike. Even at times of ample surpluses at Cushing (Oklahoma) - the US hub of criss-crossing pipelines - sometimes the WTI ticker is still seen trading at a premium defying conventional trading wisdom. The cause, according to Dan Dicker, author of the book Oil’s Endless Bid, is the rampant "assetization" of oil.

The author, a man with more than 20 years of experience on the NYMEX floor, attributes this to an influx of "dumb money" in to the oil markets. Apart from introducing and taking oil price volatility straight to the consumers' wallets, this influx has triggered a global endless bid for energy security. Via a book of just under 340 pages split by three parts containing 11 chapters, their epilogue and two useful appendices, Dicker offers his take on the state of crude affairs.

While largely authored from an American standpoint, Dicker throws up some unassailable truths of global relevance. Principal among them is the fact that visible changes that have taken place in the oil markets over the past 20 years. Go back a few decades, and everyone can recollect the connection between price volatility and its association with a major economic or geopolitical crisis (economic woes, Gulf War I, OPEC embargo, etc.)

Presently, there is near perennial volatility as the trading climate and instruments of trade available place an incessant upward pressure on black gold. Reading Dicker's thoughts one is inclined to believe that at no point in history was the phrase "black gold" more appropriate to describe the crude stuff than it is now; particularly in the last six years, as investment banks, energy hedge funds and managed futures funds have come to dominate energy trading and wreak havoc on prices.

In his introduction to the book, Dicker makes a bold claim - that we've lost control of our oil markets and it has become the biggest financial story of the decade. When the Oilholic began reading it, he was sceptical of the author's claim, but by the time he reached the ninth chapter the overriding sentiment was that Dicker has a point - a huge one, articulated well and discussed in the right spirit.

Ask anyone, even a lay man, a non-technical question about why the price of oil is so high - the answer is bound be China and India's hunger for oil. A more technical person might attribute it to the US Dollar's weakening and perhaps investors playing with the commodities market as the equities markets take a hit.

But are these reasons enough to explain what caused prices to soar 600% from 2003 to 2008, only to take a massive dip and soar again over the next couple of years? Something is fundamentally wrong here according to the author and the latter half of his book is dedicated to discussing what it might mean and where are we heading.

Whether you agree or disagree is a matter of personal opinion, but the author's take on what broke the oil markets, and how can they be fixed before they drag us all down into an economic black hole, strikes a chord. He also uses part of the narrative to reflect on his life as a trader before and after passage of the US Commodities Futures Modernization Act opened up the oil markets to a flood of "dumb money."

Sadly, as Dicker notes, the biggest victim of oil markets frenzy is the average consumer, who pays the price at the pump, and in the inflated costs of everything - from food and clothing to electric power and even lifesaving medications. The Oilholic is happy to recommend this book to those interested in crude oil markets, the energy business, US crude trading dynamic, petroleum economics or are just plainly intrigued about why getting a full tank of petrol has suddenly lost the element of predictability in the last half decade or so.

© Gaurav Sharma 2011. Photo: Cover of ‘Oil’s Endless Bid’ © Wiley Publishers, USA 2011.

Monday, March 08, 2010

Adios Cheap Oil, Says Shell's CEO

As the crude oil price lurks around its 52-week high of $83.25 a barrel, one cannot but help thinking about what CEO of Royal Dutch Shell Peter Voser said earlier this month. Speaking at the Wall Street Journal’s ECO:nomics conference in California on March 4, Voser told delegates, "I think what is dead is cheap oil. There is sufficient oil around but producers will have to spend more to get it. And I think you'll see that in the end price for consumers."

Debunking the “Peak Oil” hypothesis, Voser said that by 2050 around 40% of cars worldwide will be electric leaving some two-thirds still running on oil. “We will need conventional oil for the foreseeable future,” he added.

Oil futures gained over 2% last week, on the back of positive U.S. jobs data and healthy market feedback on Chinese and Indian economic growth. According to an investors note sent out to clients, analysts at Commerzbank AG believe the price of oil could exceed the current trading circa of $70 to $82 a barrel.

Earlier today, the crude contract for April delivery rose to an intraday high of $82.47 a barrel on the NYMEX before being tempered by a rising U.S. dollar, with the ongoing Greek debt tragedy continuing to weigh on the Euro. At 17:15 GMT, NYMEX crude contract for April delivery was up 10 cents or 0.12% at $81.51 a barrel. Concurrently, London Brent crude contract was trading at $80.35 up 11 cents or 0.14%.

Classic problem for forecasters is that direction of the economy and currency fluctuation aside, ETFs have more or less converted investing in commodities into a pseudo asset class. Hence, retail investors could de facto bet on commodities consumption patterns of emerging economies by investing (or divesting) in commodities, especially oil, via ETFs.

Oil has always been the vanguard of the commodities bubble. Excluding, London and Singapore markets, in 2003, ratio of paper barrels traded to physical barrels traded on NYMEX stood at 6:1. By 2008, the figure had risen to 19:1 and continues to rise, according to industry sources. Now imagine adding London and Singapore markets to the ratios?

It is a no-brainer that anyone who holds a paper barrel hopes to profit from it and few have any intention whatsoever of ever taking an actual delivery of oil. I feel it is prudent to mention that I am not joining the “Hate Speculators Club”. While supply and demand scenarios should (and in most cases do) dictate market movements, there’s more than one reason why cheap oil’s dead.

© Gaurav Sharma 2010. Photo Courtesy © Royal Dutch Shell

Thursday, December 31, 2009

Crude Year ’09 Ends Just Like the Last One

When 2008 was coming to an end, the price of crude oil was stuck below half its record peak price of US$147 a barrel seen in July that year. Yet fears about a new spike persisted despite a dire global economy. As the curtain falls on 2009, with the price of crude futures hovering around $80, market commentators have voiced similar concerns. Most of the reasoning banks on sound conjecture that oil consumption in India and China is rising beyond expectation and that OECD economies are also witnessing an economic recovery of sorts after facing negative growth for much of 2009.

The year saw some memorable as well as predictable developments. As the price of oil weakened so did the black gold weighted currencies, most notably the Russian Rouble. OPEC continued to maintain production levels at its March meeting, resisting temptation to cut production in wake of falling prices. It ended the year with a production level of 24.84 million barrels per day (bpd), excluding Iraq's output. On the M&A front, Suncor and Petro Canada announced a CAD$ 19.3 billion (US$ 15.3 billion) merger. ExxonMobil topped the Fortune 500 Index, dethroning Walmart as USA’s biggest company. The Texas-based oil giant, according to published sources, employed 79,000 people and produced 3% of global oil as of April 2009. It was followed closely behind by Chevron in third place and ConocoPhillips in fourth, highlighting the dominance of energy companies in the U.S. corporate world.

Clamour for biofuels grew, along with arguments for and against them and new methods of production. One of the most unique theories came from three researchers at the University of Nevada (Reno, U.S.A.) whose research was carried by a number of media outlets in 2009. Lead by Dr Manoranjan Misra, they found that coffee grounds can yield 10-15% of biodiesel by weight. However, so far there are no indications that Starbucks would enter the oil trade.

Perhaps still haunted by the fact they sold minerals rich Alaska to the U.S.A. in 1867 for two cents an acre, the Russian government launched fresh and detailed territorial claims within the Arctic Circle determined not to miss out on a perceived oil bonanza in the region. Despite extracting oil from seabed being mighty awkward, Canada, Denmark, Iceland, Norway and U.S.A. also made their respective claims beyond agreed international borders (to be heard at a later date).

Nigeria’s maritime troubles related to oil, dogged production for most parts of the year. The militant group curiously named MEND (Movement for the Emancipation of the Niger Delta) offered nothing more than temporary respite. While Nigerian production fell, Uganda and Ghana struck oil. Armed with petrodollars, China, Russia, Iran and Venezuela dished out their own respective international versions of how to win friends and influence people noted The Economist.

Major oil firms frowned at the miserly terms offered by Iraq’s government at the first opening of competitive bidding for production rights in July and some seemingly held out for better prices. Iraqis said it was their moral right to protect the country’s wealth. As security is a distant prospect, something has to give way with negotiations and fresh bidding slated for 2010.

Last but not the least, bashing 'speculators' emerged as the most popular way for American and European politicians to spend time when called upon by their electorates and the popular press to explain first high and then low oil prices. Ultimately settling on 'volatile' as an apt description, politicians hailing from no less than 19 developed countries echoed the common message of 'damn the speculators' - some in more colourful language than others.

For most of the motley crew, alternative investors such as exchange traded funds which hold large commodity positions for extended trading durations were behind price volatilities seen in anything traded on earth from gold to garlic, and not just oil. However, a U.S. CFTC study from 2008 seemly exonerated them and the Commission’s new boss Gary Gensler has so far not rejected the validity of its findings.

Maybe for some, it’s rather difficult to palate that ‘speculation’ in itself mirrors supply, demand and global instability premiums. While the latter impacts oil more than most, supply and demand permutations hit traded commodities of all descriptions.

© Gaurav Sharma 2009. Photo Courtesy Cairn Energy PLC