Crude Oil Prices

Ever wonder how crude oil prices went from $50 to $120 per barrel at the same time that U.S. demand fell 1% and worldwide demand rose less than 2%? Or how hundreds of crude oil producers can post the same price every day without so much as phone call to one another?

Saturday, May 3, 2008

You Pay Full Price-Speculators Pay 10%

Margin requirement for the front month NYMEX crude oil futures contract is just under $9,000 for 1,000 barrels of crude. Thus, a speculator can control 1,000 barrels of crude for 10 cents on the dollar while taxpayers pay the full price to add to the Strategic Petroleum Reserve (SPR ). Doesn't anyone in government remember that margin requirements were the first things to come out of the 1929 crash; that their purpose is to cool down run away markets fueled by lenient credit? Greenspan sat on his hands while the Dot Com bubble expanded and burst without ever changing margin requirements. Aren't we paying the price right now for a credit mess facilitated by sleeping regulators ?

What do you suppose would happen to crude prices if the margin requirement for the NYMEX crude oil contract were raised to 100%. And what if our government did all three of the following (which could be acomplished in less than24 hours) ?

1. Raise the margin for NYMEX crude oil futures.

2. Permit delivery on the NYMEX contract of any imported crude at any port of entry.

3. Suspend the purchase of oil for the SRP.

Tuesday, April 29, 2008

Economics 101


The Facts:
1. From January 2007 to April 2008, the price of crude oil rose from $50 to $120/barrel, an increase of 140%.

2. From January 2007 to April 2008, worldwide demand for crude oil rose only 1%. Worldwide consumption averaged 84.61 Million barrels per day in 2006, 85.36 barrels per day in 2007, and is forecast to average 86.58 barrels per day in 2008.

The Conclusion:
Anyone who states that this rise in oil prices is the direct result of supply and demand is either an idiot or a fraud.

The Other Shoe:
From January 2007 to April 2008, the National average price of gasoline at the pump rose 64 % (from $2.20 to $3.60), while crude rose 140%. If crude prices rise no further and gasoline prices rise 140% from the average for January 2007, the National average at the pump will be $5.28 per gallon.


Sunday, April 20, 2008

The Dumbest Government On Planet Earth

Not a day passes that we aren't entertained with yet another version of why oil prices are spiking once again. Some days we are even treated to Congressional hearings, which have the same efficacy of a bandaid on a severed femerol artery. It seems that no one notices an egregious shortcoming of the New York Mercantile Exchange’s Crude Oil Futures Contract ( the NYMEX Contract), which sets the price of crude oil in the United States, if not the world. That it does so is indeed unfortunate, given the fact that American consumers are being bludgeoned by hedge funds and other well capitalized speculators, including the sovereign funds of foreign oil producers, that utilize the monopoly power of the NYMEX Contract to drive oil prices to unconscionable heights. Heights that are far above the price that supply and demand in the physical markets would support. Moreover, the NYMEX Contract, more than any other mechanism, has enabled OPEC to achieve their long sought goal “ to coordinate and unify petroleum prices.

The NYMEX Crude Oil Contract is an agreement between a buyer and a seller in which the seller agrees to deliver to the buyer 1,000 barrels of a grade of light sweet crude, nominally referred to as West Texas Intermediate, on a date certain at any pipeline storage facility in Cushing, Oklahoma. While delivery at Cushing might have been realistic 50 years ago, when the United States imported less than 15% of its crude oil requirements, it is an absurdity now that crude imports represent over 50% of U.S. requirements. Moreover, no pipeline capacity exists to transport any appreciable amount of the more than 10,000,000 barrels of foreign crude imported into the United States every day to Cushing, Oklahoma.

In addition to the impracticability of making delivery, the NYMEX Contract permits the delivery on the Contract of crude from only three foreign sources . Thus, 10,000,000 barrels of foreign crude of various grades is delivered every day to various U.S. ports; yet, virtually none can be delivered against the contract that sets the price American consumers must pay for those imports. From a legal standpoint, action under a contract is impossible when it is not practicable, and impracticability is a result of extreme difficulty, unreasonable expense, or the unavailability of the tangible means of performance (among other things). Ergo; the price of crude in the United States is set by a “contract” that fails to even reach the threshold of a valid legal instrument.

But, for the sake of argument, disregard all of the foregoing. Forget that crude oil prices have risen from $50/barrel to $120/barrel since early 2007, while U.S. demand fell nearly one percent and worldwide demand rose by a mere 1.3% during the same period. Disregard the five and ten dollar per barrel spikes that occur when U.S. inventories of crude drop three or four million barrels ( a whopping four hours of supply !!). Ignore the economic lunacy of setting the worldwide price for 87 million barrels of crude oil per day on the price for the last incremental barrel of demand. Assume that the NYMEX price for crude is the end result of open outcry between buyers and sellers, and achieves the lowest possible price for consumers in a totally transparent market. Make any argument for the NYMEX Contract that the imagination can construct, but no legitimate argument can be made that supports a futures contract against which physical delivery cannot be made.

The Commodity Futures Trading Commission (CFTC), was given a mandate to regulate commodity futures and options markets in the United States. What argument can be presented that would defeat the idea for an order from the CFTC requiring all crude oil futures contracts to accept delivery of any imported crude oil at any port of entry ? The physical trade does it every day, and adjusts for differences in grade, sulfur content and various other factors in the bargain. Surely, the great minds that created the NYMEX Contract would have no problem incorporating these factors into their paper world. Not even the great hedge fund masters, or a bureaucratic, bungling thirty billion dollar a year Department of Energy, could concoct a theory that would suggest such a free delivery protocol would cause crude prices to rise. And if the CFTC were to issue such an order, and it had no effect whatsoever on the price of crude oil, what damage would have been done to the economy or to consumers ?

If the CFTC is too timid to make all U.S. ports which handle crude a delivery point for the NYMEX Contract, it could easily start with just one: the Louisiana Offshore Oil Port (the LOOP). The LOOP is the only facility in the United States capable of offloading today’s deep draft tankers. The LOOP has storage facilities for more than 50 million barrels of crude, and through five connecting pipelines, furnishes crude to over 30% of the United States' refining capacity. The LOOP facilities make Cushing look like a corner Quick Stop.

The CFTC , the DOE, the Administration, and Congress are all asleep at the switch on an issue that is probably costing U.S. consumers more than a billion dollars a day. Some industry experts, who profit greatly from the high price of crude, have stated openly that the worldwide economic price of crude, absent speculators, would be around $50 to $60 per barrel. What greater reason could our government have for an emergency order that poses no risk to honest capitalism or to the economy, but has the possibility to bring down an artifically inflated oil price that is costing consumers one billion doallars per day?

One final thought: The NYMEX Crude Oil Contract is brought to you by the same universe that created the current sub-prime induced credit catastrophe. Should speculators who are carrying millions of barrels of crude oil futures find their fortunes wrecked by realistic NYMEX Crude Oil delivery rules and margins, the Federal Reserve no doubt stands ready to rescue them, just as the Fed is now doing for the people who invented the machinery for converting sub-prime mortgages into AAA securities (and who paid themselves eight and nine figure salaries while doing so).


About Me

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B.S. in Petroleum Engineering, University of Oklahoma