Modern Commodities Markets are Badly Distorted

Adapted from an earlier posting on Al Fin


Dian Chu suggests that under the modern regime of commodities pricing, very few people know what the true market price of oil -- and other commodities treated as "asset classes" -- is.

The only real market principles are based upon who is using the product, i.e., who needs the commodity to actually take or provide physical delivery. I know what a novel idea, actually using futures contracts the way they were originally intended. But this is something that modern societies must enforce through necessary market reforms. You would find out real quick what the true market price is for many of these necessary commodities by making players take or provide physical delivery. _EconMatters

You might look at modern oil markets as hundred billion dollar casinos, where everybody's a winner -- as long as they control the spin of the wheel.

Prices are not determined by the fundamentals in a manipulated market they are determined by oil being an “Asset Class” which is code word or a euphemism for giant Casino in New York instead of Vegas.

...The price of oil, and as such gas is determined not by supply and demand factors, but by whether Goldman Sachs (NYSE: GS) or Morgan Stanley (NYSE: MS) or J.P. Morgan (NYSE: JPM) puts $400 million on Black or Red, the literal Oil Roulette game of the big banks... If Goldman Sachs puts $400 million on Black prices go up, if they put $400 million on Red prices go down, as simple as that, this is actually how the price of oil is determined, nothing more and nothing less. _Dian Chu

In a simpler world of fewer trades, where commodities futures can be monitored closely by a conscientious overseer, manipulating the market would be more difficult. But in the modern, ultra-high volume speed-of-light trading by the giant banks with minimal oversight, the smart money bets on the smart manipulators.

...lets just abolish the SEC and the CFTC, as they are completely useless. Furthermore, since all markets are ripe with manipulation, essentially the wild-west; why not reduce government costs by cutting funds to these two agencies entirely. They serve no real purpose when markets are corrupted everyday with Fake Orders, Dark Trading Pools, High Frequency Trading Algos, and the like except to further government costs & bureaucracy while strictly providing the illusion of fair markets. These organizations are a complete joke, and have been for decades!

... _Dian Chu

If you combine Dian Chu's reasoning above with Andrew McKillop's thinking featured in this Al Fin Energy article, you may begin to see a pattern developing.

Even in an era of relative oil oversupply, markets can be tweaked so as to bring oil prices further upward -- until it is time to let them drop again.

It is difficult to deny that global oil markets have become the equivalent of casinos, with all the big players standing around the wheel, placing bets and exerting small bits of control over the ball, here and there, now and again, over and over again.

As for US government oversight, fuggidduhbowdit! The Chicago outfit only wants to make sure that it gets its piece of the action.

More from Dian Chu here:

Physical-delivery-needed-in-agriculture & Energy Markets

But don't hold your breath waiting for any meaningful reforms that might make these markets more transparent and less manipulable. The big players will always give themselves the upper hand if at all possible.

There are many indicators suggesting that big governments and large intergovernmental agencies are happiest when managing a world where information and data transparency is limited to persons or entities on the top, politically and economically.

This has generally been the case in Asia and Europe (and for the UN, World Bank, and IMF), and is becoming increasingly the case in the US under the Obama administration, also known as the Goldman Sachs administration.

Cascading Economic Slowdown to Affect Energy Markets

Yesterday we looked at how economic problems in advanced nations might adversely affect the economies of the emerging and third worlds. It was asserted that such a cascading economic slowdown would likely lead to lowered demand for energy and commodities on the part of both emerging and third world nations.

Since recent demand growth for energy and commodities has arisen primarily from the emerging and third worlds, such a top-down cascading economic slowdown would be likely to suppress global energy and commodities markets -- possibly over a matter of decades, unless the anti-energy & anti-private sector biases of the US and EU governments were reversed.

Today we will look more specifically at how BRIC economies may already be suffering as a result of the significant and ongoing stagnation in EU and US economies, with reduced EU and US demand for BRIC and third world products.

China has already exhibited multiple signs of economic slowdown, which will ultimately lead to cascading reductions in demands for commodities by the middle kingdom. China can overproduce into a declining demand for only so long.

Russia is drowning in corruption, making it difficult for the wounded bear to acquire the foreign partnership and technical expertise it will need to maintain its high level of oil & gas output over the coming decade.

Russia is also suffering from an ongoing demographic tragedy affecting its core ethnic Russian population. A heavy influx of Muslim immigrants into Russia has tended to obscure this building tragedy, and many wide-eyed innocents are reporting that all is well with the Russian people. But sadly, since they do not stratify their analysis by ethnicity, their numbers and graphs are just so much garbage. The Al Fin blog has provided extensive coverage of this ongoing demographic catastrophe.

Brasil is, along with neighbor Venezuela, one of China's important suppliers, and will be hard hit by any sustained decline of Chinese demand for commodities.

And as the slowdown cascades down the supply line, other nations of South America, several nations of Africa, and many nations of South and Southeast Asia will likewise be affected.

Many economic analysts assume that if populations continue to grow, that meaningful market demand for commodities will grow apace. But that is naive. Many nations that are experiencing rapid population growth at this time, will not be able to pay for growing consumption in the face of a cascading economic slowdown.

Iron Ore and Coking Coal Price Collapse, and China

China Exhibiting "Zero Growth" or worse

China and Russia decline in global competitiveness

Six Signs of China's Deteriorating Economy

China's coming leadership of the world in doubt

Are Global Commodities Markets Getting an Advance Look at Peak Demand?

Commodities prices have been cooling recently, and fingers are being pointed toward China, Europe, and the US.

According to data compiled by Reuters, China's oil demand fell in April to its lowest level in six months. Implied oil demand fell 0.5pc in April to 9.31m bpd.

All of this has helped the price of Brent crude contracts to fall to around $112 a barrel now, compared with its high of $125.28 in December.

One-month futures in West Texas Intermediate (WTI), the US benchmark, are now trading at about $97 compared with their February closing high of $110.56. _Telegraph

Commodities fell to nearly two-year lows last week, measured by a widely used benchmark, prompting investors to ponder whether the massive rally that began in 1999 may be faltering.

China is cooling down at the same time the U.S. is struggling to heat up, clouding the outlook for the world's two biggest consumers. And producers of some raw materials have ramped up supplies enough to create at least temporary gluts, particularly if appetites falter. _WSJ

If the economies of the large importing countries are slowing, prospects for a renewed rally in commodities look unlikely.

How much of this tri-continental economic hiccup can be blamed on inflated oil prices? Certainly when oil prices rise above the level that markets can tolerate over the long term, demand destruction begins to set in.

More analysts are becoming pessimistic about China's near-term growth prognosis. If China is not able to pull the global economy, it is not likely that Europe or Obama's US can do much better.

SG Research highlighted both a slowdown in property investment and electricity consumption, with the latter indicating a broad-based deceleration in economic activity. Not only did the growth rate in total property investment more than halve to 9% year-on-year in April, but there are also now signs the property slowdown is spreading to consumption as well. Household appliances recorded the lowest growth rate among major retail categories.

Power-production growth — a figure frequently used as a proxy for the health of the wider economy — had almost stalled, growing just 0.7% in April. In SG’s opinion, this latest batch of data activity “scream out for easing.”

...It has been suggested before that current property curbs designed to slow the market will not be removed until the new government is in place, and the same goes for Beijing coming up with a substantial stimulus effort.

. Meanwhile, another wild card to distract Chinese leaders is the possible collapse of the euro and what this would mean for the competitive position of China, which ships approximately 20% of its exports to the euro zone.

CLSA in a new strategy note said a euro collapse is looking increasingly likely. Perhaps then, Beijing’s caution is warranted, as it is just keeping its powder in reserve for when it really needs it._Marketwatch

China is experiencing other problems of a political nature as well, which may create some blowback on the economy.

Only a few people are pointing toward an actual collapse in global commodities markets, but it would be wise to hedge your bets.

Future of Commodities: Light and Dark

Commodities Now
No one holds a crystal ball which will give the commodities investor perfect advice for maximising his return on investment. So it is a good idea to consider a range of projections, and ponder the logic behind each prognostication most carefully. Here are excerpts from two recent projections, at somewhat different ends of the investment spectrum.

What will happen over the next 10 years? I believe the supercycle of growth across emerging markets will continue with rising urbanization and income rates. This bodes well for commodities, especially copper, coal, oil and gold, and we’ll continue to focus on companies that will benefit the most from these much-needed resources.

...10 years of tremendous income growth and little household debt, make China the “world’s best consumption story, for everything from instant noodles to luxury cars” in 2012.

According to December Chinese trade figures, month-over-month and year-over-year imports of aluminum and copper increased significantly. This may be a result of China restocking ahead of Chinese New Year, but M2 money supply growth rapidly rose in recent months, a sign the government is attempting to reaccelerate the economy. Also, the urban labor market has been robust over the past two years, with an annual change just below 5 percent—a record high over the past 15 years. _CommoditiesNow

Well, it is good to put a positive face on things if you can. The author of the piece excerpted below, takes a very jaundiced view of the coming world of commodities. When reading it, try to maintain a sense of perspective, and stay away from high places, loaded guns, and prescription drugs.

I'm interested in how both shadow and dark inventory phenomena pervert their respective markets, as well as the entire free market system as a whole, where everyone is supposed to have "full access to information". Something both dark and shadow inventories make impossible. Something the 99% general public are not aware of. At all.

If you are the accumulator of dark inventory, or privy to the flow, you are able to foresee the market rallies and position yourself accordingly. This is a profitable time.

Of course, in continually oversupplied markets you will begin to suffer the costs of hedging inventory, if you are bothering to hedge, (since forward curves may eventually flatten out) as well as the burden of balance sheet expansion. Eventually it will make sense to park that inventory off-balance sheet._Dark Inventory

...I certainly recommend reading Izabella's entire piece (like all other pieces I quote from). But even from the quote above alone, you can, even if you're not familiar with the topic, still get a genuinely queasy feeling. We're talking market manipulation here, a way to influence investment decisions without anyone ever knowing they’re being manipulated. And fully legal.

Chris Cook, former compliance and market supervision director of the International Petroleum Exchange, writes this about "dark oil inventory" at Naked Capitalism:

All is not as it appears in the global oil markets, which in my view have become entirely dysfunctional and no longer fit for its purpose. I believe that the market price is about to collapse as it did in 2008 and that this will mark the end of an era in which the market has been run by and on behalf of trading and financial intermediaries.

In this post I forecast the imminent death of the crude oil market [..] _Naked Oil

...In a nutshell: Cook argues that QE measures from the Fed and BOE have caused large investors to flee from dollars into commodities.

This in turn has led to a price bubble through contango (forward prices are higher than spot prices), for which they are all positioned, but this will down the line inevitably lead to the opposite - backwardation -, and the bubble must burst. Severely, says Cook: to as low as $45 a barrel. Given how conservative Cook is in the numbers he uses, even that may be a high estimate.

In yet another article at Naked Capitalism, Irish journalist Philip Pilkington summarizes Cook’s point so well it seems pointless to try and improve on it:

...if this is a bubble of fear and it bursts – the financial sector is going to see a huge wiping out of the profits they have been reaping from it. We have no way of knowing how much profitability is tied up in these dodgy markets – but my thinking is: a lot. _Fear and Loathing Bursting Bubbles

...while I think it's important for everyone to see and understand that, and how, manipulation sets market prices for commodities (and stocks, but that's another story) on a daily basis, and not some free market principle, I started out trying to figure out what connects dark oil inventory and shadow housing inventory.

Michael Olenick, founder and CEO of Legalprise, and creator of FindtheFraud, has - extensively- looked at the latter:

...if shadow inventory is large, housing prices have a good bit further to go before they hit bottom, which has dire consequences for communities, homeowners, and the broader economy. _Shadow Inventory in Housing

...I think perhaps the best way to make the connection between dark inventory in commodities and shadow inventory in real estate is to look at, no surprise, what pays for it. And that leads me to what I have long since coined "zombie money".

Zombie money is the money that seems, but only seems, to exist because of unrecognized losses. QE measures, for instance, basically serve to keep those losses unrecognized. That’s what they're for. To make markets, and ordinary people, believe that banks are still solvent when in reality they're not.

Funny thing is, even with all the accounting tricks that hide those losses, the entire system is still, and already, on the verge of collapse. And when it goes, the loser will be you, not the gamblers that lost fair and square. If dark inventory shows you anything, it’s that fair and square is a thing of some mythical fairy tale past. The reality for you and me is, and this is not the first time I put it like this: heads you lose, tails you die. _The Automatic Earth

Perhaps the truth is somewhat in between these two scenarios. But it is becoming more and more difficult to trust all the "happy talk" about China coming from those who stand to profit from your investments, one way or another.

The idea that markets are being manipulated behind the scenes may seem far-fetched. And yet, wherever there are profits to be made by any means, there are those who will take the risk. It is best to remember that.

Taken from an earlier article on abu al-fin

And don't forget this cautionary look at world commodities prices from our own Al Fin energy analysts.

Speculators Banking on Higher Commodities Prices...Just Like in 2008

Money managers expanded their combined net-long positions across 18 U.S. futures and options by 25 percent to 671,915 contracts (.MMLOSH) in the week ended Jan. 3, Commodity Futures Trading Commission data show. Bullish bets on cotton rose the most since April 2009 and those on coffee doubled. Crude-oil holdings reached a three-week high. _Bloomberg

They are betting your pension and 401K money, university endowments, municipal holdings and more -- just as they did in 2008.

Commodities to be Volatile this Year
The recent history of commodity prices has not been so good, overall, and if recent unfavourable developments in China and Europe continue on their downward course, commodities prices could be subject to further significant drops.

Prices of raw materials have plunged this year. The prices of copper, coffee, aluminum, cotton, nickel, natural gas, wheat and silver are all down more than 20% since the end of April, according to Bloomberg. Gold, widely viewed as a barometer of inflation, has fallen 11% since its September high of $1,900 an ounce.

Inventories of commodities have gotten so high that metals dealers have had to buy extra warehouse space for them.

In November, copper warehouses in New Orleans were 98% full, and aluminum inventories in the U.S. are at an all-time peak, according to FastMarkets.com. _USAToday

The prices of commodities futures depend upon anticipated demand from the big consumers of commodities. That would be China, the US, and Europe. But with a turbulent decline in Chinese real estate and stock markets, and a Eurozone crisis of confidence still building, what could be boosting the confidence of hedge funders and institutional investors?

Bloomberg attributes this aggressiveness by fund money managers to recent favourable economic news from the US government, such as improved job numbers. But these job numbers have already been shown to be unreliable at best and uniformly misleading at worst. Are money managers so easily manipulated by fudged numbers?

Many funds managers are particularly excited by the prospects of a huge runup in oil prices, just as they were in 2008. Looking at current prices of oil in dollars, prices do seem to be trending upward. But look at the chart below, showing the price of oil in gold:

Source
Another aspect to consider when looking at historical price trends, is the inflation of the US dollar. One cannot compare today's prices of commodities such as oil with historical prices, unless one first adjusts for inflation.

Here is a table that shows the inflation adjusted price of oil beside the historical price of oil.

A handy US dollar inflation calculator

It is not possible to predict future prices of commodities with any great precision. But by understanding the bases of commodities demand, there are benchmarks which one can monitor.

Economic data from governments is apt to be fudged. Always confirm and corroborate.

12 Jan 2011: More: Please consider the information in this article in the context of the information presented by Chris Cook in the article "Naked Oil" on global oil markets. (via Brian Westenhaus)

There is always more going on under the surface than most observers will ever know.

Global Energy Markets Slow Responding to China Slump

China's problems are piling up, just when the celestial kingdom is attempting an orderly handover of power. Since China's wild grab for commodities over the past 2 years has been a powerful driver of global energy markets, it will be interesting to watch global commodities markets as the China bubble begins to deflate. In economics, "cycles are forever." But China's insular government and its massive population are unfamiliar with economic concepts such as "what goes up, must come down." Watch and learn.

Chinese stocks are flashing warning signs. The Shanghai index has fallen 30pc since May. It is off 60pc from its peak in 2008, almost as much in real terms as Wall Street from 1929 to 1933.
"Investors are massively underestimating the risk of a hard-landing in China, and indeed other BRICS (Brazil, Russia, India, China)... a 'Bloody Ridiculous Investment Concept' in my view," said Albert Edwards at Societe Generale.

...China's $3.2 trillion foreign reserves have been falling for three months despite the trade surplus. Hot money is flowing out of the country. "One-way capital inflow or one-way bets on a yuan rise have become history. Our foreign reserves are basically falling every day," said Li Yang, a former central bank rate-setter.

...Fitch Ratings said China is hooked on credit, but deriving ever less punch from each dose. An extra dollar in loans increased GDP by $0.77 in 2007. It is $0.44 in 2011. "The reality is that China's economy today requires significantly more financing to achieve the same level of growth as in the past," said China analyst Charlene Chu.
Ms Chu warned that there had been a "massive build-up in leverage" and fears a "fundamental, structural erosion" in the banking system that differs from past downturns. "For the first time, a large number of Chinese banks are beginning to face cash pressures. The forthcoming wave of asset quality issues has the potential to become uglier than in previous episodes".

...A fire-sale is under way in coastal cities, with Shanghai developers slashing prices 25pc in November – much to the fury of earlier buyers, who expect refunds. This is spreading. Property sales have fallen 70pc in the inland city of Changsa. Prices have reportedly dropped 70pc in the "ghost city" of Ordos in Inner Mongolia. China Real Estate Index reports that prices dropped by just 0.3pc in the top 100 cities last month, but this looks like a lagging indicator. Meanwhile, the slowdown is creeping into core industries. Steel output has buckled. _Telegraph_via_Mish

If you cannot see a direct connection between the ongoing dynamic economic phenomena in Europe and China -- and the global energy markets -- perhaps you should look a bit more closely.

Emerging markets such as the BRICs have helped prop up energy markets through both artificial and natural economic means, over the past several years. But a lot of things could happen to reverse that trend, and make an artificial propping up of energy prices much more difficult.

Biomass on Commodity Markets? More Biomass to Chemicals

Wood fuel, one of the oldest energy sources on the planet, could become the newest commodity market if it can overcome supply limits and green concerns as demand grows for renewable energy.

...utilities are burning biomass in ever greater amounts and now want price certainty and derivatives to manage their cost exposure in forward power sales, although European policymakers are mulling limits on subsidies for burning wood fuel given concerns about deforestation.

“It’s coming very fast,” said John Bingham, a director at consultants Hawkins Wright, referring to the development of an open market, and citing Eurostat data showing EU imports of wood pellets up 42% last year.

He saw increasing evidence of a larger scale market including big producers of wood pellets in Europe and North America and big intermediaries, such as Cargill and Gazprom, to balance large utility buyers. _FP

The article quoted above is looking only at wood pellet fuels for heat and power production. But wood is not the only biomass that can be pelletised. In order for all the various types of biomass pellets, tablets, briquettes, torrefaction products etc. to be featured on commodities markets, their quality characteristics will have to be well defined and standardised.

While converting biomass into combustion fuels is relatively uncomplicated, it is not the most economical or efficient use of the biomass. Converting biomass into high value chemicals returns a higher profit, and converting biomass into transportation fuels provides access to a wider marketplace. Here is one example of how biomass-derived sugars can be converted to chemicals and fuels:

(H2PO4)2 solid acid catalyst in an isobutanol-water (1.6:1/V:V) two-phase system to convert glucose to 5-hydroxymethylfurfural (5-HMF), an important green platform chemical with wide applications in the production of fine chemicals, pharmaceuticals, plastics and liquid alkanes.

Although fructose can be converted to 5-HMF with high yield via acid-catalyzed dehydration, fructose is costly.

With its low cost and wide supply, the conversion of glucose to HMF has attracted the interests of researchers. For gaining a high 5-HMF yield, the choice of catalysts is very important.
—Zhuang et al.

_GCC

As better methods of converting biomass to sugars come along, the cost of sugars will drop rapidly. At that point, industrial applications for the conversion of sugars into chemicals, fuels, plastics, and more... will expand in number very quickly.

ZeaChem, Inc., has signed a long-term binding term sheet with GreenWood Tree Farm Fund (GTFF), managed by GreenWood Resources (GWR), to supply hybrid poplar woody biomass for its first commercial cellulosic biorefinery.

The combination of GTFF’s existing tree farms in close proximity to the biorefinery, GWR’s world leadership in development and management of tree plantations, and ZeaChem’s highly efficient biorefinery technology will enable the supply of low-cost fermentable sugars used in the production of advanced biofuels and bio-based chemicals for years to come, it said. _BrighterEnergy

Blowing Bubbles in Oil, Commodities?

Right now, the printing of trillions of dollars by the Federal Reserve is creating another financial bubble. It is supported only by deficit spending, borrowing, and money-printing. Nothing else is supporting the stock or bond market. Everyone knowledgeable person knows this, but many who are benefitting from the scam choose to deny it. The intent of this bubble is, obviously, to provide cheap capital to the biggest debtors in the world, and to juice stock and bond prices. That helps those who are have obligations and assets created during the previous bubble that went out of control, because it is allowing them to escape before the system blows up, one final time. Meanwhile, many non-connected financial institutions and individual investors are being conned into buying into the bubble through the extensive Orwellian Newspeak that we hear on radio, television and in the business press.

No bubble expands forever. The balloon must eventually pop if too much air is pumped in. The same is true of a financial bubble. If the Federal Reserve keeps pumping funny-money dollars into the current bubble, it will continue to expand for a while, until it finally pops into hyperinflation. On the other hand, if the Federal Reserve stops pumping in the dollars, the balloon will deflate quickly. We may end up in a Greater Depression, but coupled with inflated prices because of what was done. _SeekingAlpha

WSJ
Commodities have rallied across the board, and large numbers of insitutional investors are betting that the rally will continue through the next several years.

One of the commodity prices followed closely by energy analysts is the price of crude oil. Recent surges in oil prices have prompted many analysts to predict oil prices between US $100 and US $150 a barrel over the next year or two. But is that a sure bet?

Oil bulls risk mistaking tax-driven changes in crude inventories and a temporary rise in heating demand for a lasting transformation in the outlook.

The recent rally, which has seen spot oil prices rise almost $20 (28 per cent) since August 2010, has been driven more by expectations about future tightness than current fundamentals.

Market participants are convinced strong demand growth in emerging markets, coupled with recovery in the United States, cheap money policies and Saudi Arabia's refusal to raise output, will work down excess inventories and tighten the supply-demand balance in 2011.

But inventories of crude and refined products remain comfortably above five-year averages. Saudi Arabia and other OPEC members hold 5 million barrels per day (bpd) of spare capacity. Non-OPEC production is growing briskly. Refiners have plenty of spare capacity. And there is a good balance between product demand and available crude oil inputs. _CalgaryHerald

If institutional investors catch wind of a deflating bull bubble-stink, prices could fall abrubply.

Crude may decline to as low as $82 or $80 a barrel if hedge funds and other speculators decide to take profits by selling contracts, Petromatrix’s Managing Director Olivier Jakob said in the report. It last traded at $88.52 a barrel in New York as of 12:22 p.m. London time.

“If there is some genuine profit taking from large speculators then we need to consider the risk for further downside,” Jakob said. _Bloomberg

Oil dictatorships like Russia, Venezuela, and Iran tend to be particularly belligerent when oil prices are high -- and are expected to go even higher.

Big investors who help to drive oil prices higher than fundamentals could do, are also feeding political instability and despotism in the third world, and economic uncertainty in their home countries. The smart ones are able to profit from such uncertain and instable conditions, if they move fast enough on the shifts.

The Obama administration has taken a lot of steps to shut down US production of coal and oil. Obama's EPA is working to clamp down on Canadian oil sand imports and on US production of shale oil. But political peak oil -- and the resulting artificial oil price bubble -- a la Obama will not affect the US' neighbors.

Cuba is diving into the offshore oil drilling game -- hoping to cash in on Obama's ongoing de facto Gulf of Mexico oil moratorium. Cutting corners on safety and environmental protections, Cuba's Venezuelan, Spanish, Norwegian, Brazilian, Indian, and Chinese partners are not particularly concerned about the environmental fallout along the Eastern US coast and fisheries, in the event of a massive spill. Certainly Mr. Obama is not likely to complain very loudly -- even if the environmental damage from a Cuban spill is orders of magnitude larger than from the BP spill. In the event of a Cuban spill, Obama is likely to turn against US oil companies to make it even harder for them to drill in US offshore areas.

Politically contrived bubbles in commodity prices abound. Bubbles within bubbles. And although human stupidity may be forever, individual bubbles always burst.

Big Investors Driving Oil Prices

Investors continue to drive the market for oil, pushing prices above US$86 a barrel Monday -- and this despite the opinion of no less an expert than King Abdullah of Saudi Arabia, who has said a couple of times over the past two years that US$75 to US$80 a barrel would do just fine, thank you.

As long as investors' enthusiasm for oil lasts, we live in a surreal world in which the fundamentals of supply and demand seem to have lost their traction. _FP

Peak oil doomers want to believe that shrinking oil supplies are squeezing world oil prizes higher. All of this is supposed to be the lead up to a gigantic economic crash costing hundreds of millions of lives around the world. But the reality is more mundane.

Supply seems ample, as well. Oil inventories in the United States are at above-average levels, and the futures market is quite happy to guarantee you delivery of oil in 2014 for only about three dollars more than it would cost you to buy a barrel today.

But neither slow-growing demand nor the market's expectation of ample supply for years down the road has been capable of shaking investors' enthusiasm for oil as an asset class.

"This raises a key question," says Bassam Fattouh of Oxford University in a recent paper on oil pricing. "If market participants attach little weight to current market fundamentals and if future market fundamentals are highly uncertain, at which price or price range should the oil market clear?"

His answer is that oil prices have become "indeterminate" -- a professor's way of throwing up his hands and saying you can no longer predict what's going to happen next. Oil's price depends upon a guessing game among major market players in which everybody is trying to guess what prices other players are guessing. If that is correct, oil investors can expect some neck-wrenching swoops in the years ahead as bulls and bears take turns in the pilot's seat._FP

World oil production is approaching the July 2008 peak -- at a much lower price per barrel -- despite all claims that oil production peaked in 2005. And most of the recent increase has come from non-OPEC sources, against all predictions by peak oil gurus.

When prices of a commodity are driven up by big investor speculation, it is called a price bubble. The oil price bubble that culminated in the collapse of 2008 was accompanied by bubbles in prices of other commodities and real estate, along with multiple financial instruments. The current oil price bubble would like to get other economic entities onboard in order to appear more convincing.

But when will demand destruction begin to kick in? And how much demand destruction can the hugely endebted economies of Europe, Japan, the US, and other advanced nations take before they sink back into another full-blown recession?

Demand destruction occurs because of the price of energy, not because of any shortage of supply. If the supply is ample but prices have been driven up by large investors looking for a safe haven, the demand destruction is the same.

Meanwhile, every policy of the Obama - Pelosi regime appears directed toward reducing domestic US energy production. Hang on, it could be a wild ride.

Previously published at Al Fin