Devils, Fools and The Bogeyman, Redux

An excellent demonstration of what I talked about yesterday:

Oil futures were up $1.67/bbl... to $133.

China increased the prices that can be charged for fuel domestically, and some investors anticipate dampened demand there. ...but others think private Chinese refiners might increase production because now they can sell gas at a profit, instead of a loss, so net Chinese demand might increase.

Which way do you think it will go? I say -- more production. So does the futures market: more demand = higher price.

Meanwhile, Israel conducts exercises that could portend attack on Iran, which could shut dow the straights of Hormuz, the busiest ocean going oil shipping route (something like 30% of oil in the world). Less supply,= higher price.

Note that the futures market puts a hard dollar value on abstract judgments like the effect of Chinese price controls, impending wars, etc.

Other factors were present yesterday, too:

Royal Dutch Shell PLC's declaration that it can't meet contractual obligations
to export oil from a Nigerian oil field following a militant attack Thursday,
and reports that Nigerian oil workers have decided to strike at a Chevron Corp.
facility beginning Monday. Both moves were seen as likely to further cut oil
supplies from Africa's largest producer.

Another supply problem. And

The dollar fell against the euro Friday, putting more upward pressure on oil
prices. Many investors buy commodities such as oil as a hedge against inflation
when the greenback weakens. A falling dollar makes oil less expensive to
investors overseas.

So they buy more, bidding the price up.

But people bidding up the price of oil are just greedy speculators, you know. As Bill O'Reilly and others are saying, the U.S. Government should stop the speculation (how?). All will be well in the world, then, they say.... Gas prices will plummet, rainbows will appear, birds will sing, and Barack and McCain will skip off into the sunset hand-in-hand...

Note that the effects of different world / economic events can oppose each other to create the illusion of price stability. Uncertainty creates price volatility as investors' judgments wax and wane about the likelihood of a future event, or the significance of a present one (like in China).

But uncertainty isn't the only aspect of price volatility: when a number of opposing factors are about equal, the effect on prices can cancel, and the price of oil (or any commodity) can remain almost stable. But if the factors are very significant, very small changes in any one factor can cause the price to swing wildly -- like subtracting two almost equal but large numbers. 1,000,000 - 1,000,000 = 0, but 1,000,000 - 999,000 = 1000. Multiply this by all the dynamic factors at work in the oil market today. Huge forces are at work, and it takes very little change to upset the delicate balance of all factors to cause large price increases.

With the forces at work in Washington on boths sides of the aisle, we stand a good chance of seeing the mile-long gas pump lines we saw in 1980 -- and for no good reason. All we need is laissez faire.

Robb


http://news.yahoo.com/s/ap/20080620/ap_on_bi_ge/oil_prices;_ylt=AqgC6nYNE7F3D0d2DAXlpO.s0NUE
Oil rebounds on word Israel practiced Iran attack
By JOHN WILEN, AP Business Writer 42 minutes ago
NEW YORK - Oil futures rebounded Friday on unease over Middle East stability and a growing doubt that China's government will be able to curb the country's appetite for fuel by pushing prices higher.

At the pump, gas prices rose slightly.

Light, sweet crude for July delivery rose $1.67 to $133.60 a barrel on the New York Mercantile Exchange, recovering some of the $4.75 that the contract lost Thursday after China announced it was raising fuel prices.
The July crude oil contract expires at the end of trading Friday; trading in expiring contracts is often volatile. Trading was much heavier in the August crude contract, which rose $1.77 to $134.37 a barrel.

While Thursday's news from China helped to reduce investor concerns about surging global demand for oil and fuel, Friday's news from the Middle East injected fresh supply worries into the market.

Pentagon officials said a large scale Israeli military exercise in the eastern Mediterranean early this month could have been a demonstration of Jerusalem's ability to attack Iranian nuclear facilities.

Analysts suggested Thursday's drop in prices and Friday's gains were overreactions.

"Whenever you get Israel and Iran within the same sentence, you have a price reaction," said Jim Ritterbusch, president of energy consultancy Ritterbusch and Associates in Galena, Ill.

But price moves based on the possibility of conflict between the two nations are likely to be short-lived, analysts believe. An actual attack would be a different matter entirely, and could send prices sharply higher.
Meanwhile, several analysts said China's fuel price hike could actually increase the nation's crude demand. Many Chinese refiners have resisted producing fuel in recent months as the retail prices they're allowed to charge were not high enough to cover the costs of their main raw ingredient, crude oil. Now that they can charge more for fuel, Chinese refiners may actually produce more diesel and gasoline, using more crude oil in the process.

"The increase in prices can be seen ... as an attempt to reduce shortages through encouraging domestic supply," said Barclays Capital analyst Kevin Norrish in a research note. "Indeed, it could well be that case that effective demand actually rises, dependent on the current level of shortages."
Some analysts also questioned whether the modest price hikes were enough to dampen demand.

"It remains uncertain whether this fuel price hike in China will really significantly impact demand growth in China in a negative way," said Victor Shum, an energy analyst with Purvin & Gertz in Singapore. "This (was) a knee-jerk overreaction by the market."

Also supporting prices Friday was Royal Dutch Shell PLC's declaration that it can't meet contractual obligations to export oil from a Nigerian oil field following a militant attack Thursday, and reports that Nigerian oil workers have decided to strike at a Chevron Corp. facility beginning Monday. Both moves were seen as likely to further cut oil supplies from Africa's largest producer.

On another front, investors were awaiting the outcome of a weekend summit in Saudi Arabia between oil consuming and producing nations to discuss high oil prices.

The dollar fell against the euro Friday, putting more upward pressure on oil prices. Many investors buy commodities such as oil as a hedge against inflation when the greenback weakens. A falling dollar makes oil less expensive to investors overseas.

At the pump, meanwhile, gas prices inched 0.2 cent higher to a national average of $4.075 a gallon Friday, according to AAA and the Oil Price Information Service. Gas prices have drifted lower this week since hitting a record $4.08 a gallon on Monday.

Gas prices will likely hold steady near current levels, as long as oil continues trading in its current range between roughly $132 and $138, analysts say.

Diesel fuel, used to transport the vast majority of the world's food, consumer and industrial goods, fell 0.5 cent overnight to a national average of $4.786 a gallon. Diesel reached a record $4.797 on Monday.

In other Nymex trading Friday, July gasoline futures rose 6.24 cents to $3.415 a gallon, while July heating oil futures rose 6.37 cents to $3.7772 a gallon. July natural gas futures rose 12.6 cents to $13.987 per 1,000 cubic feet.

In London, August Brent crude rose $1.98 to $133.98 a barrel on the ICE Futures Exchange.