Oil Futures

Some commentators are accusing speculators of pushing up the price of oil. Before getting to worked up about this we should do some clear thinking. There are three ways that speculators came make money from a commodity like oil.

1. Speculators can buy shares in the companies that produce the commodity. This is happening with oil companies. There shares have increased dramatically, but this does not change the price of oil.
2. Speculators can invest in commodity future. They are guessing what the future price of the commodity will be in the future. Future prices do not feed into current prices. Unless they close out the contract before the settlement date, the parties to a contract must settle on that date. If the market price has diverged from the contract price, one of the parties will make a loss.
   
   The futures market must face reality when the future meets the market in the present. This means that the market price eventually dominates the futures price. Speculators may be pushing up the future price of oil, but if they are wrong, they will eventually take a bath.
3. The only way that speculators can influence the current price of a commodity is to buy the commodity and storing it. This reduces supply while leaving demand unchanged, which should cause the current price to move up. Buying and storing is quite easy for many commodities. Gold coins can be purchased and stored in a vault or under the bed. Wheat can be purchased and store in a silo. The problem with purchasing oil for speculative purpose is that it is not that easy to store. The oil has to be stored in tank or a tanker, which is costly. Current reports indicate that the volume of oil in storage has not increased significantly, so it is unlikely that speculators are storing large volumes of oil to get a better price in the future.
   
   Buying a commodity for speculation only makes sense, if the price is going to go higher in the future. Most of those who own oil at the moment, will be selling it as quick as they can to get $130+ a barrel.

People like having someone to blame. Speculators are always an easy target. The real reason for high market prices is that the supply of oil exceeds demand. If the American economy goes into recession or American’s get out if their cars and walk, prices might fall again, but I am not holding my breath. The American economy still looks fairly strong and the American pedestrian is overweight, so I do not see either happening soon.