Update: Crude closes at another record:
Light, sweet crude for November delivery rose $1.48 to settle at $87.61 a barrel on the New York Mercantile Exchange. Oil prices reached a new record trading high of $88.20 earlier in the session and eclipsed the record close of $86.13 a barrel set on Monday.
Meanwhile, demand concerns have risen since reports in recent days from the Energy Department, the International Energy Agency and the Organization of Petroleum Exporting Countries have suggested oil supplies are flat or falling as demand is growing.
The surge in prices has also attracted lots of speculative investment money, further driving prices higher. And the tight supply and demand situation magnifies the price effect of geopolitical tensions, as there is less spare supply available globally to cover a disruption from someplace like Iran, Nigeria or Venezuela.
The falling U.S. dollar has also played a role, as oil worldwide is priced in dollars. Oil producing nations have less incentive to ramp up output if the buying power they receive per barrel is declining, and foreign consumers have less incentive to reduce demand if oil is, relatively, getting cheaper for them.
With oil prices closing above $86 yesterday, a number of people have asked if I am starting to sweat my $1,000 bet that crude won’t make it to $100 this year. In order to reach that level, oil still has to advance another 16% in the last 2.5 months of the year. That may not seem like much, but remember that is on top of the already strong run that it has had. I expect people to start taking profits pretty soon, and I think there will be resistance between here and $100. OPEC will also be under pressure to produce more, and if they announce that they will do so, it could drop the price very quickly.
As far as the bet goes, as I told many people when I made it, I am hedged pretty well. As oil prices increase, my company’s stock price increases. So, if oil reaches $100, I will earn more than $1,000 from the stock appreciation. Of course the worst possible scenario is for oil to just crack $100, and then retreat back to $75, taking my company’s stock price down with it.
The Oil Drum is conducting a poll to see where readers think oil prices are headed:
By more than a 2 to 1 margin, readers think oil prices will reach $93 before they reach $79. I voted for $79 before $93.
Yesterday’s OPIS report covered this story at great length. They also showed that speculators are playing a major role here (I know some don’t believe this, but numbers are provided below). Here are some excerpts:
There was no shortage of bullish headlines to support the crude move but the momentous settle still left analysts scratching their heads. One analyst noted a “tough market to peg,” and a rally that “doesn’t seem to stop.” ExxonMobil’s CEO Rex Tillerson was among the perplexed, telling Dow Jones that market fundamentals don’t support $86/bbl crude oil.
Regarding speculators, the numbers tell the tale:
Friday’s data from the Commodity Futures Trading Commission underscore the difference between mid-October 2007 and the same period a year ago. Data released by the CFTC on Friday show that large “non reportable” positions among long traders increased by nearly 8-million bbl for crude oil. Meanwhile, funds on the short side liquidated about 4.7-million bbl worth of contracts.
The result is a “net long” number that shows funds betting on price appreciation to the tune of a net position of 69.2-million bbl. Interestingly, this came on a day where Energy Secretary Bodman acknowledged that oil prices are no longer the province of energy companies but instead are within the trading rooms of New York, London, and other worldwide financial capitals.
The year-to-year difference in the bias is staggering. The CFTC report from October 13, 2006, showed speculative longs holding about 159-million bbl worth of crude, but speculative shorts were at nearly the exact same number. The net long position of a year ago was just 301,000 bbl. Hence, the big speculators have a net bet on higher prices that is about 230 times the net bet from one year ago.
The thing about speculators is that they can push the price down as quickly as they pushed it up. They greatly increase the volatility of oil prices.
Here’s a story from Reuters that captures my sentiments pretty well:
NEW YORK (Reuters) – U.S. oil may hit a near-term ceiling soon as market fundamentals should not support prices much higher than the current record $85 a barrel levels, the director of Terra Verte Trading LP said on Monday.
“I’m thinking that $86 or $87 is pretty close to the top with the information we have right now,” said Andy Weathers of the Houston-based fund.
U.S. crude oil futures touched a record high $85.30 on Monday as part of a surge that has added nearly $15 to prices since late August.
Concerns about potential supply shortfalls this winter and the weaker U.S. dollar have helped fuel the rally, while worries over mounting tensions between Turkey and northern Iraq have added geopolitical concerns over the past week.
But Weathers said supply and demand levels do not support a rise much further and a top may be close if geopolitical concerns subside.
“To me, it appears that if we can digest this, the market should sell back off,” he said in a telephone interview.
“I think it is a little overpriced right here.”
Don’t get me wrong. I think long-term, we will see oil prices continue to climb. I just think prices have gotten ahead of themselves at the moment, and is very likely going to back off from these levels for a little while.