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Energy & Commodities

The Problem with Banning Oil Speculation

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Posted by James Hamilton

on Monday, 23 April 2012 13:03

By James Hamilton

Joseph P. Kennedy II, former Congressional Representative from Massachusetts, and founder, chairman, and president of Citizens Energy Corporation, has a proposal to make energy affordable for all. All we have to do, Kennedy claims, is "bar pure oil speculators entirely from commodity exchanges in the United States."

Writing in the New York Times last week, Joseph Kennedy (D-MA) explained why he believes that speculators are responsible for the high price that we currently have to pay for oil:

Today, speculators dominate the trading of oil futures. According to Congressional testimony by the commodities specialist Michael W. Masters in 2009, the oil futures markets routinely trade more than one billion barrels of oil per day. Given that the entire world produces only around 85 million actual “wet” barrels a day, this means that more than 90 percent of trading involves speculators' exchanging "paper" barrels with one another.

It's true that most buyers of futures contracts don't actually want to take physical delivery of oil. If I buy the contract at some date, I usually plan on selling the contract back to somebody else at a later date, so that I leave the market with a cash profit or loss but no physical oil. But remember that for every buyer of a futures contract, there is a seller. The person who sold the initial contract to me also likely wants to buy out of the contract at some later date. I buy and he sells at the initial contract date, he buys and I sell at a later date. One of us leaves the market with a cash profit, the other with a cash loss, and neither of us ever obtains any physical oil.

Let's take a look, for example, at NYMEX trading in the May crude oil futures contract. A single contract, if held to maturity, would require the seller to deliver 1,000 barrels of oil in Cushing, OK some time in the month of May. Last Friday, 227,000 contracts were traded corresponding to 227 million barrels of oil, which is indeed a large multiple of daily production. But it is worth noting that at the end of Friday, total open interest-- the number of contracts people actually held as of the end of the day-- was only 128,000 contracts, much smaller than the total number of trades during the day, and not much changed from the total open interest as of the end of Thursday. Many of the traders who bought a contract on Friday turned around and sold that same contract later in the day. If the purchase in the morning is argued to have driven the price up, one would think that the sale in the afternoon would bring the price back down. It is unclear by what mechanism Representative Kennedy maintains that the combined effect of a purchase and subsequent sale produces any net effect on the price. But the only way he gets big numbers like this is to count the purchase and subsequent sale of the same contract by the same person as two different trades.

It's also worth noting that on that same day, there were 146,000 May natural gas contracts traded, which if held to maturity would call for delivery of natural gas at Henry Hub in Louisiana. A single contract represents about 10 million cubic feet, so Kennedy's calculations would invite us to compare the 1,146 billion cubic feet of "paper" natural gas traded on Friday with the total of 78 billion cubic feet of natural gas that the U.S. physically produced on an average each day in 2011. Once again, the vast majority of Friday's natural gas futures trades were matched by an offsetting trade during the same day so as to have little effect on end-of-day open interest.

By what mysterious process can all this within-day buying and selling of "paper" energy be the factor that is responsible for both a price of oil in excess of $100/barrel and a price of natural gas at record lows below $2 per thousand cubic feet? I suspect the reason that Kennedy does not explain the details to us is because he does not have a clue himself.

To Continue Reading CLICK HERE

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Energy & Commodities

Crude Oil Report: Pipeline Reversal Moves Market As Brent Sinks While WTI Rises, But Trend May Fade

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Posted by Sumit Roy- Hard Asset Investor

on Saturday, 21 April 2012 09:52

By Sumit Roy

The volatile WTI-Brent spread fell to multimonth lows, but surging production in the U.S. makes further narrowing challenging.

The Department of Energy reported this morning that in the week ending April 13, U.S. crude oil inventories increased by 3.9 million barrels, gasoline inventories decreased by 3.7 million barrels, distillate inventories decreased by 2.9 million barrels and total petroleum inventories decreased by 2.2 million barrels.

As expected, Brent prices continued to drift lower over the past week after breaking below the key $121 support level amid economic concerns and receding Iranian tensions. But in an interesting twist, WTI prices actually rose in the period.

BRENT

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WTI

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The highly volatile spread between the two benchmarks narrowed to $14 from $17.50 last week and more than $20 at the beginning of the month. That puts it at the smallest level since Feb. 1.

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The catalyst for this latest move in the spread was news that the operators of the Seaway Pipeline plan to reverse its flows earlier than expected — at the end of May, rather than June 1. 

As we’ve written about in the past, the Seaway Pipeline was designed to send crude oil from the Gulf Coast to Cushing, Okla. But surging production in Canada and the U.S. Midwest has created a glut of crude in the region, depressing prices for local benchmarks such as WTI. 

To reduce the gap between crude such as WTI and global benchmarks such as Brent, transportation capacity out of the Midwest needs to be increased. The reversal of the Seaway Pipeline — after which crude will flow from Cushing to the Gulf Coast — satisfies that need.

About 150 Kbbl/d of the pipeline’s capacity is set to be reversed late next month, while another 250 Kbbl/d may be reversed by early 2013.

Yet while the reversal of Seaway is a step in the right direction, the market anticipates it alone will not alleviate the Cushing glut completely. Still-wide spreads between WTI and Brent across the futures curve is evidence of that. 

Rapidly increasing output in the Midwest and Canada necessitates steady increases in transportation capacity. Declining demand across the United States makes the supply and demand balance even more lopsided.

To Read More CLICK HERE



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Energy & Commodities

Those wretched crude oil speculators

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Posted by Jack Crooks

on Thursday, 19 April 2012 10:33

“There is no life I know to compare with pure imagination. Living there, you'll be free if you truly wish to be.”

- Willy Wonka

Chock another one up to the “let’s look like we’re doing something” category ...

Hypothetical scenario:

Suppose all 5th grade teachers at a given elementary school give their students ample amounts of candy before recess each day. This sugar high has led to wilder children on the playground. It has also emboldened the kids to act more dangerously as their risk-taking is near perfectly correlation with their classroom popularity. Taken together, the now rowdier mob of children has led to an increased number of serious injuries on the playground. And pretend for a moment that the rest of the student body is responsible for the hospital bills of these injured 5th graders. And pretend that prior to the teacher’s decision to sugar-up her students before recess the rate of injury was insubstantial. What might they do to mitigate the increased cost the public must pay for the hospital bill?

Easy. Lower the heights of the playground equipment and pay new playground police to monitor the situation closely. But don’t alter the pre-recess candy supply (maybe even increase the supply if the kids begin to look sluggish now that the playground equipment isn’t as inviting ...)

President Obama is talking tough – he’s going to crack down on the problem that’s driving gasoline prices beyond tolerable levels. He’s going to crack down on those wretched speculators.

Obama is urging the CFTC use its clout to get tougher on those trading in the crude oil futures market. Specifically, he wants to see higher margin rates per contract and wants them to enact some form of position limits to mitigate any abnormally large long positions that could serve to manipulate crude prices higher.

Ted Butler would be proud. [If you don’t know Ted, he’s been all over the CME and COMEX and the regulators to rain down on such large short positions that are allegedly manipulating precious metals’ prices lower. It will be interesting to see if this do-something attitude being applied to the crude oil market will translate to the precious metals et al.]

All that said, here’s a short list often used on a day-to-day basis to explain the fluctuation in crude oil prices:

    Geopolitical risk (e.g. what might result from butting heads with Iran)

    Supply/demand changes (e.g. falling energy consumption in the US or depletion of existing well output rates or Saudis pumping overtime or supertankers running out of gas or ...)

    Inflation hedge (e.g. hold real assets in case prices soar as a result of the declining purchasing power of the US dollar—the currency in which most commodities are priced)

    Broad-market risk appetite (e.g. commodities moving in line with “risk assets” driven by growth opimtimism)

Let me say this: speculation is a necessary and natural form of price discovery in the markets. It is this price discovery that sends signals to all market players, financial and real. The pricing system is the core of the market system and what makes capitalism the best and more efficient way to structure an economy. Period! End of story.

Yet politicos,  through the ages, have attacked speculators as devious manipulators who are the cause of all ills economic. There is nothing new here; it’s the same tired scapegoat rhetoric.

Granted, there are speculative premiums embedded in prices; that is a fact and will not change as long as you have actively traded markets. Sometimes these premiums will be out of line, and those betting the wrong way will be punished by Mr. Market. But over time the real supply/demand dynamics will rule the day.  Not speculation.  Though I am not a big believer in so-called equilibrium, I do believe prices will trend toward some supply and demand equilibrium over the longer term. It’s true for oil, wheat, corn and every actively traded commodity.  It has always been that way.   This doesn’t mean markets or market mechanisms are perfect.  They are not.  And it doesn’t mean market efficiency can’t be improved.  It doesn’t mean politically-protected con-artists—read Jon Corzine—should not be thrown in jail forever.

Liquidity.

Down here in Florida we are represented in the Senate by Republican Marco Rubio and Democrat Bill Nelson. Marco is good, but not perfect. Bill isn’t so good. In fact, he recently delivered the government’s preferred approach to crude speculators in an interview with CNN where he promised these recently proposed efforts were not “political”. He then passed around a YouTube link to that interview. Here is the interview with Mr. Nelson if you can sit through it without a barf-bag at your side: http://youtu.be/Rz3kysPnudU

I felt compelled to write him.

To Read The Rest CLICK HERE

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Energy & Commodities

Natural Gas Report: Price Could Fall to $1 or Rise to $3 Depending on Production Levels

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Posted by Sumit Roy

on Saturday, 14 April 2012 09:05

Written by Sumit Roy  |

April 12, 2012

The natural gas market is facing an unprecedented glut. We examine the latest outlook.

Natural gas prices were little changed today after the Energy Information Administration reported that storage operators injected 8 bcf into storage last week. That was below market expectations that were calling for an injection close to 18 bcf, but excluding a one-time accounting adjustment of 10 bcf, the figure was in line with estimates.



Earlier this week, natural gas plunged below $2/mmbtu for the first time in 10 years, as the unprecedented glut of inventories in the U.S. and Canada weighed on already-depressed prices.

To Read More CLICK HERE

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Energy & Commodities

3 Reasons to Start Growing Your Wealth with Grains

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Posted by Sean Broderick- Uncommon Wisdom

on Thursday, 12 April 2012 08:43

According to the U.S. government, our corn and wheat surpluses are going to be larger-than-expected this year. Normally, that increased supply would lead to a decline in prices. But that’s not happening this time and, in fact, grain prices are acting darned bullish.

Take a look at the iPath DJ-AIG Grains ETN (JJG). The fund tracks a basket of three commodities traded on U.S. exchanges: Soybeans, corn and wheat. As you can see, it recently broke out to the upside, and I think it could shoot up to $55, and perhaps even higher.

image

One reason for the rally is that other grain suppliers around the world haven’t been as successful as the United States this year. For example, while our winter was warm, one of Russia’s key growing regions was hit so hard with frost that big sections of it may be replanted. Meanwhile, drought is damaging crops in South America and withering fields across Europe.

You also have to take into account the other side of the equation. U.S. supplies may be rising, but so is demand, especially from China. Last year, China replaced Canada as the largest importer of U.S. agricultural products, bringing in $95 billion worth. That was up from just $12 billion in 2001, a year-over-year increase of 30% for a full decade.

China imports a lot of corn and beef from the U.S., but the No. 1 seller is soybeans. Last year, 60% of all U.S. soybean exports went to China and, this year, that number could be even higher.

But it’s not just China. There are now more than 7 billion people in the world, and many of them want to eat more and better food. The United Nations’ Food and Agriculture Organization confirms that food prices are rising, and will continue to rise.

If you combine all these forces, it paints a picture of higher prices going forward. Luckily, that may prove to be a positive development for America. Heck, we’re the Saudi Arabia of grain exporters, so higher prices should help our trade balance.

There are plenty of ways to invest in this sector, in everything from tractor and seed manufacturers to funds that track agricultural commodities and industries. But make sure to do your own due diligence before investing in anything.



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