The real reason gas prices are soaring

Discussion in 'Economics' started by olias, Mar 29, 2011.

  1. olias


    what a lousy article here from MSN.... This writer is giving voice to someone else who doesn't understand WTF he's talking about. This guy needs to be put on blast for spreading ignorance. It's scary how many people but into this logic:

    "An oil-trading pro blames a flood of new investors buying oil ETFs for the recent pain at the pump.
    By MSN Money partner on Tue, Mar 29, 2011 11:33 AM

    Have you ever wondered why when you go to the gas station to fill up the family car, the price of gas at the pump has just jumped 25 cents a gallon over the past three days? Perhaps you thought the oil companies were just being greedy. Or you believed the nightly news pundit who said that gas prices went up because the crisis in Libya was affecting supplies of oil. One professional oil trader says that you'd be wrong on both counts.

    Dan Dicker, who has spent nearly three decades in the oil market, has a profoundly disturbing explanation of why the price of oil, and the gasoline that comes from the crude product, has risen so dramatically in recent months. It turns out, Dicker says, that the price has nothing to do with supply and demand for oil. It's the financial market for oil, filled with both professional speculators and amateur investors betting on poorly understood oil exchange-traded funds, who have ratcheted up the price of gas to such sky high levels.

    "There is no supply issue going on here -- what you have is the perception of the possibility of a supply issue," Dicker says. "A whole bunch of people are pouring money into an oil market trying to take advantage of what they perceive to be a real risk in supply. It's a marketplace that I argue should not be allowed to be wagered on like a stock or bond."

    Dicker notes that Libya produces only 1.3 million barrels of oil a day, just a tiny fraction of the world oil market. Even if Libyan crude were lost to the world market in the current turmoil, and there is no sign that it is, Saudi Arabia has 5 million barrels a day to use in case of an emergency.

    Dicker, who has just published a book called Oil's Endless Bid: Taming The Price of Oil To Secure Our Economy, makes a strong case that if the government stepped in and regulated oil trading so that only investors with a genuine interest in the physical product, such as airlines and heating oil companies, could buy and sell oil futures, then the price of oil would fall by 50% overnight and our economy would be much better off.

    Why Greater Regulation Is Needed

    "You have to make it so the original intent of commodity markets, to be used almost exclusively as hedging tools, is returned," he says.

    Though Dicker acknowledges that is not likely to happen, he points out that when the 2008 economic crisis froze all financial markets and investors stampeded to the sidelines, the true price of a barrel of crude oil became known: $32. It's now hovering at around $110 thanks entirely to investor demand, he says.

    One of the reasons Dicker is calling for greater regulation of the oil market is that no one really knows how large it is or what is going on it on a day-to-day basis. In fact, it reminds Dicker of the market for credit default swaps, which brought down the insurance giant AIG and forced the government into a $180 billion bailout.

    The market for oil traded financial instruments has been estimated at between $8 trillion and $30 trillion, but there are no concrete numbers because traders don't have to tell anyone how much they are betting either for or against the oil price. Dicker says if the government minimally required oil trading to be conducted in a transparent manner on exchanges instead of the current over-the-counter system, a large number of speculators would leave the market and the price of would fall sharply.

    He also notes that the major shift in oil trading has been relatively recent. First, financial firms such as asset managers and pension funds realized they needed to diversify their holdings of stocks and bonds, which had performed badly over the previous few years.

    The move was made easier by the arrival in 2006 of electronic trading of oil futures. The formerly cumbersome process of trading oil with a floor trader at the New York Mercantile Exchange was suddenly replaced by a streamlined process requiring only a few keystrokes on Chicago Mercantile Exchange's Globex computer platform.

    From a few thousand trades an hour at the old NYMEX, traders now process millions of trades an hour by computer. Dicker estimates the financial market for oil is 15 times greater than the amount of actual oil being traded, with 75 types of futures being sold on exchanges. That doesn't even include all the private, over the counter transactions that take place.

    "The amount of money pouring into hard assets, particularly oil, is outsized because it's new and fresh, so you get these outsized moves from $68 a barrel in the summer of 2010 to $100 now," Dicker says.

    Why does all this trading drive up the price, when buyers and sellers should theoretically cancel each other out? Dicker says that is primarily because almost all oil investments being sold by the big investment banks are long trades -- bets that the price will go up. While it's also possible to short oil ETFs, no one does. So the price heads ever skyward.

    "There is no shorting of the market and the commodity market is not like a stock market," he says. "It is not designed to have only one half of a trade. It is designed to inspire both halves, that's how you arrive at a correct price." Dicker gives the following example: Let's say you live in a neighborhood where all the homes are priced at $200,000. Suddenly an army of buyers arrives who want desperately to move into the neighborhood. You were not really interested in selling before, but now a buyer offers you $400,000 for your $200,000 house. What are you going to say?

    "That's what's going on in oil," Dicker says. "You have this army of people who have been flooding into a brand new neighborhood and they've had to inspire somebody to sell and the only way you can do that is pay an outrageous price for it."

    The Biggest Winners

    Among the biggest winners of the new oil markets are investment banks like Goldman Sachs (GS) and Morgan Stanley (MS), which create new products for clients and then use that information to trade on the products. In 2004 and 2005, Goldman Sachs made $1.5 billion a year trading oil, Dicker says. In the first half of 2009 alone, the firm made $3.4 billion oil trading profits. Firms like Goldman are not taking bets that oil will move lower or higher. Trading simply means naming a spread of buy and sell prices from which they can eke out tiny but regular profits, a business without risk.

    Dicker is particularly contemptuous of oil ETFs of the kind that many small investors have used as vehicles to diversify their holdings. "In these markets, the way they are set up, with all the edges with investment banks, the regular investor is just fodder," Dicker says. "The ETFs are the world's worst investment. They've only lasted this long because oil prices continue to rally."

    So if gas prices would come down sharply with minimal regulation, why doesn't the government step in and impose limitations as it has done recently for other derivatives, forcing most firms to conduct their trading on exchanges? Dicker believes it is largely because large financial firms with a direct interest in oil trading have made so much money with oil that they can afford to lobby Congress to block any significant reforms. "
  2. The money that pours into paper demand is 11 times the physical demand.

    That means if the options, short sale, futures and fwds were banned in oil market and only spot trading was allowed, then you would see oil price going lower than $40/brl overnight.
  3. Don't think so, mate. A big chunk of America's oil source can't even pulled out of the ground at $40/bbl, which means your argument is equivalent to saying oil demand in the US moves up with price increases.

    Now, if China stopped using their trillion dollar USD reserve to subsidize internal oil prices, we could very well see $40 in short order.

    But then where would our iPhones come from?
  4. Almost all oil in mideast cot less than $10/barrel

    So banning all derivatives in oil market will not wipe mideast oil production which has more spare capacity than you can imagine
  5. There isn't enough oil in the mideast and the other remaining "$10" producers to meet demand. The US is importing large quantities from Alberta, where cost of production is an order of magnitude higher than in eg Saudi Arabia.

    Because the cheap stuff is in short supply, the cost of production is highly nonlinear at the margin. At $100+, there is tons of supply, and demand is met. Current price makes a lot of sense as a stable area, as it's just below the Holy Shit price levels of '08 that drove the global economy into a recession and sunk the credit markets.

    At $200, there will be even more supply, but we probably won't be able to afford to burn it, so it'll likely fall back again, if it gets there.

    No, it doesn't. And worse, to keep their populations more or less placated, fuel is massively subsidized internally in many petro countries, leading to a bigger percentage of production never even making it to the export market. Eg Mexico, where the rate of export decrease is double the rate of production decline, and Egypt, which shortly before the revolution went from net exporter to net importer.
  6. The real reason for the spike in oil prices derives from the same superspike in 2008. The weak dollar due to the federal reserve's monetization of the national debt. Oil is priced in dollars due to the agreement arranged in the late 70's. The US would stop producing its major reserves and buy oil from the middle east, if they would peg to the usd and buy treasuries. This allowed the national debt to soar without inflationary consequences at first. But now, with three wars, the Federal government cannot finance the debt with taxes, or middle east dollar recycling alone, so the fed has to monetize the debt. Since crude is still pegged to the dollar, as the dollar weakens, oil goes higher.

    In 2008, when the fed finally pulled dollar credit lines worldwide, they collapsed the world banking system, so the dollar soared and oil dropped like a rock.

    Therefore, the real reason for oil at 114 per barrel at this time is due mainly to QE2.
  7. A big chunk of America's oil source can't even pulled out of the ground at $40/bbl,-

    What you'r talking about is the big chunk of Shale plays. You are correct as it cost around 60 -70 bucks a barrel to break even on "Slant Drilling" in Shale.

    However, in "Sand" drilling, Texas, NY, etc, oil can be pulled out with a break even of around 11 bucks.

    Most of the projects that I raised capital for (2.5- 3 million per well), our break even is around 10-24 bucks a barrel. Meaning, oil could drop to those levels and we would be in the break even zone.

    In our Bakken Shale Play in North Dakota with Slawson Oil and other's that I will not name, our break even is 70 a barrel. We are drilling in the 3 forks area as well as smack dab in the middle.

    There is plenty of oil in the US (Non Shale) that can be harvest for a break even of 20 or so.

    Sorry mate, I happen to be in the OIL GAME and your facts are wrong.
  8. This baby is South Texas Sweet Crude, break even at 12 bucks producing around 100 barrels a day and around a 500,000 bcf.

  9. On top of that you didn't mention the motherload in Alaska, or the recent motherload that BP just hit but plugged in the gulf. There are also thousands of motherloads in california that are already drilled, with pumps that are shut off. There is so much cheap oil in the US, but the oil companies will not truly tap our resources until the price hits somewhere above 200 per barrel.
  10. This is well number 2 about 4 miles from the first well I posted.

    She is doing about 80 Barrels a day and around 800 bcf.

    This is one that I own 2% NRI in and helped to Fund, along with my buddy in the background who also owns 2% NRI and helped to fund.

    This Well cost 2.6 million all PRIVATE INVESTMENT MONEY.

    Keep in mind there are 10000s of Wells Like this all over the US, pumping all kinds of Oil and Nati Gas.

    Most of the Oil Production in the US is funded by Private Investors, near 70% on shore. The MAJORS play in the GULF, where a rig cost billions.

    These Wells in this development area in South Texas will pump 50 to 60 years, with a decline curve towards the last few years of course.
    #10     Mar 29, 2011