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Price Of Oil: Manipulation? Bubble? Supply/Demand? at Trader’s Narrative

What can possibly explain the behavior of the price of oil? The Senate committee has heard testimony from a variety of sources and a variety of viewpoints ranging from accusing the regulators to be tacit participants in market manipulation to “Peak Oil”.

This same sort of back and forth happens whenever we have bubbles forming. There are always those who argue that it is simply a speculative mania, and then there are the true “believers” who bring arguments and evidence why things have changed.

To show you how difficult it is to make any sense of this, consider that two very smart and very wealthy investors find themselves on opposite sides of the argument: George Soros believes there is a bubble, while his ex-partner, Jim Rogers, feels the opposite is true.

But it isn’t difficult to see why many believe that the price of oil no longer represents a true picture of the value of this commodity; after all, it has more than doubled within the span of less than two years:

crude oil parabolic chart

Note that the chart above is using a logarithmic axis for price and even then you can see that the slope of the rise from 2007 to present is much steeper than that between 2002 - 2006. Here’s an even more long term chart of crude, this time adjusted for inflation:

crude oil inflation adjusted long term chart
Source: St. Louis Fed (FRED database)

Oil Shock
This chart clearly shows that the world economy is undergoing a severe “oil shock”. One that pales in comparison to ones which we’ve seen so far in either the Gulf War or the 1979 Iranian Revolution (or the 1973-4 oil embargo - not shown on chart). Which goes a long way in explaining why consumer sentiment is at multi-decade lows.

One of the defining characteristics of a mania is a parabolic chart: increasingly steep price curve within a shorter and shorter time frame. And clearly, that is what we are seeing. While there may be disagreements whether this is really a bubble, what most can not deny is that the rise we have seen so far is just unsustainable if projected into the future.

Perfect Storm
My gut feeling is that we are seeing a confluence of forces, among them, long only commodity funds, a weak dollar, negative real interest rates (which always increase commodity prices) and demand from an increasingly voracious industrial complex in China and India.

But the fact that the increase in price has come in such a short time and it has been so incredibly sharp tells me that it can not be simply explained by the usual market forces of demand and supply. Something else must be at work to drive the price of crude as high as it has done within such a short time span. But only time will reveal what exactly what that “something else” is.

If you doubt that bubbles can not form in “real assets” then you’ve probably overlooked a lot of examples from history: the Japanese real estate bubble, gold, silver, etc. And if you believe that market manipulation is impossible or the overworked imagination of conspiracy theorists, then I would remind you of the California electricity crisis in 2000.

Silver Lining
If the price of oil here truly represents real demand and supply the potential silver lining on such a cloud is that it will not only change people’s consumption habits, it will spur on the development of better alternative energy sources. This is what I don’t understand, if you are a dyed in the wool “peak oil” believer, why invest in a dying industry? why not invest in those companies which will rise up out of the ashes and propel us forward? or do the “peak oilers” believe we are going to regress technologically?

Or consider it another way, if you were to go back in time, would you try to corner the whale oil market? or invest in Texas oil fields?

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16 Responses to “Price Of Oil: Manipulation? Bubble? Supply/Demand?”  

  1. 1 Terry

    brakken oil anyone?

  2. 2 JH

    I wouldn’t invest in companies where reserves are drying up.

    However, drillers don’t seem to have much downside. Even with peak oil, more rigs will be needed.

  3. 3 Garland Binns

    I fear this is a short-term bubble with a long-term supply problem.

  4. 4 bruce rappaport

    Part of the problem is due to a shortage of trained workers as well as the sudden explosion in demand in emerging markets. Also the plunging home prices from the weak dollar caused by excessive printing makes oil cost more dollars.

  5. 5 Marc

    Why would a weak dollar cause plunging home prices?

    A weak dollar tends to cause inflation if anything.


  6. 6 bruce rappaport

    As the dollar slid in value more were required to buy the same amount of house. Now that workers in China are getting paid more China is experiencing inflation which exports it to USA. I know it’s more complicated then that but it’s a significant part I think.

  7. 7 Tyro

    Yes, we’ve had a strong run-up but that’s partly because you’re starting you’re counting after a hard sell-off. Even still, after such a strong run, it’s reasonable to expect a pause or even retrace so I agree, this is probably a bubble, but only in the short-intermediate term. Over the longer term, the finite & declining supply combined with a growing demand is going to be brutal to the shorts.

    This is what I don’t understand, if you are a dyed in the wool “peak oil” believer, why invest in a dying industry? why not invest in those companies which will rise up out of the ashes and propel us forward? or do the “peak oilers” believe we are going to regress technologically?

    I have a funny feeling that when you talk about “peak oil believer”, you aren’t talking about people that believe in Peak Oil, but rather the people that believe in some apocalyptic Mad Max global wasteland future. If so, I wish you would find some more suitable term. Peak Oil is a fact, but how the world will react and adapt is still very much up in the air.

    Why do you think peak oil believers only invest in oil and not other technologies? I sometimes feel like your mockery of those you disagree with is blinding you.

    For myself, I am actively trading oil & gas, but also solar and other sectors. I’m not a longer term investor so I couldn’t speak for them. Perhaps Soros and Rogers are playing different time frames, or perhaps one is simply wrong. It’s happened before.

    As for regressing technologically, unless we start taking some strong actions and take them soon, societal and technological impacts will be inevitable. Nuclear power stations take years to build and since Uranium and Plutonium are fixed, non-renewable resources, we will run out of them too (we have only about 12 years supply if nuclear power replaces oil). Every possible alternative takes time and money and energy to build, and we haven’t even started. Best case scenario, we have a tough 5 years while alternative energy supplies come on line, but until we start building, those tough 5 years won’t start.

    So yes, even if we flip a switch and start building replacements for oil, there will be a period where we will not be able to meet a growing demand for energy. Without energy growth, our economies cannot grow and may start to shrink. Without economic growth, many people will be out of work and some parts of the world will face increased starvation. This isn’t controversial.

    The question is how severe the economic impact will be and what we can/will do to mitigate it.

    Or consider it another way, if you were to go back in time, would you try to corner the whale oil market? or invest in Texas oil fields?

    Either of those would have made you fantastically wealthy. If you knew when to move on to other areas. With your mockery of Peak Oil, I wonder what it will take for you to spot the danger and to move on. If you deny oil is peaking, wouldn’t that you an investor in the Texas oil fields left holding the bag when the oil slows?

    It also displays a mistaken understanding of our world. We always had replacements for whale oil and Texas oil fields, but it took time and a lot of work to transition. When US oil peaked, it wasn’t a simple transition. You needed a large infrastructure to support pumping, transporting and refining oil from overseas markets. As a Canadian, you should know that the largest supplier of oil to the US isn’t Arabia but Canada. The pipelines that supply the US didn’t appear overnight, and that was when we were dealing with a substance and technology that was well understood.

    Anyway, interesting article. You’re probably right that speculation and even collusion are helping to drive oil prices up. They’re ripples on the wave.

  8. 8 Johan

    “if you were to go back in time, would you try to corner the whale oil market? or invest in Texas oil fields?”

    LOL! :)

  9. 9 Babak

    Tyro, you’re right, not all peak oil believers are that crazy. Just like not everyone who holds gold is a nut job, maybe I’ve been unlucky but the crazies are the only ones I’ve been exposed to mostly. Thanks for your cogent feedback :-)

  10. 10 Stan

    I wonder:

    Is there a true supply and demand issue for oil, or is it being manipulated for some desired outcome?

    One of the thoughts I have, has to do with causing demand to dry up in the developing countries see the impact on Vietnam as precursor to what will happen in India and China.

    If the price of oil can be pushed up to the level that the new economies can’t sustain the high growth, it will crush the demand, and leave more of the supply for the consumers in the developed world?

    Oil price: 30-130 in seven years

    I wonder if the supply and demand curves are in sync, to justify the above price increase?


  11. 11 NutritionFacts

    You only find out the true value of oil or oil products to consumers when you there isn’t enough to go round.
    Seems to me that consumers worldwide have been benefiting from a massive consumer surplus in the price of oil (as opposed to what they would be willing to pay for it if they had to) for as long as most people can remember.
    I mean, what do you think people would really be willing to pay for their gasoline, if they had to? People in Europe pay $9 or more with barely a murmur. Most would probably pay considerably more to avoid having to travel by public transport. The geography is different in the US - so average distances may be longer - but the infrastructure is poorer and the love of the automobile is greater.

  12. 12 tyneham

    Crude oil is down more than 50% from its high of $147 a barrel… But oil-gas station prices are not down by 50%? Moreover, there were no corresponding increases or decreases in supply-demand in 2007-2008! Peak oil has been predicted for 150 years. It has never happened, and it will stay this way. It is market manipulation or it is simply an irrational speculative mania.

    The greedy oil price hikers, believers, analysts and cheerleaders were led by top ten global oil companies who continue to loot consumers, fuel inflation and the recessionary credit crunch. This is nothing less than ENRON-like collusion on a global scale.

  13. 13 Richard wicks

    Nobody will ever read this probably, but I wanted to address it:

    “Why would a weak dollar cause plunging home prices?”

    Plunging home prices will create a weak dollar. This is because our entire banking system is based on debt. When you put money into a bank, it’s loaned out immediately, and most money goes into mortgages.

    When home prices go down, that money is lost - but it’s just paper money. You have to also know that money is debt. When debt is created, an equal value of money is created out of that debt. So, when debt isn’t serviced, money is destroyed.

    Because we need foreigners to give us money to buy debt so we have money, we will always make certain foreigners are made whole on “safe investments” like Fannie Mae and Freddie Mac. To not do this would mean they won’t buy any more US debt, which means our money will reach it’s intrinsic value of 0. So, instead the government will just create money to make the foreigners whole again, and cause inflation by increasing the money supply and at the same time DECREASING debt.

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