Why Are Oil Prices Rising?

Many are asking the question about oil prices: Is this deja vu all over again? Didn’t we just go through a several-year run-up in prices based largely not on fundamentals, but on traders bidding them up, ultimately to $147 a barrel? Only then to see them plunge to $32 a barrel?

If one puts stock in the plunge, then there appears to be air in the run-up today to a six-month-high of $60 a barrel. How much is anyone’s guess. The other day, one exceedingly smart oil analyst privately put it in the range of $5 to $10 a barrel.


Here is the case for a price bubble: Oil inventories are at a 19-year high; the U.S. alone has some 1 billion barrels sitting in storage tanks, according to Mark Williams at the Associated Press. Demand for oil is set to fall to its lowest level in five years, says the U.S. Energy Information Administration.


The opposite case goes as follow: The market is factoring in expected inflation because of global deficit spending; Chinese investment spending is reviving. Over at Alaron, Phil Flynn says these are also genuine “fundamentals.”



Regardless, there always seems to be reason offered up to trust in a price run-up. After all, markets are all about emotions, as Robert Shiller notes. Yet, there are still sober voices. In my view, the Financial Times’ Chris Flood delivers it straight: Prices are rising because of various types of trading gambles. Flood quotes Mike Wittner, a senior oil analyst at Société Générale saying the following: “Recent price strength is not based on fundamentals, but on financial flows.”



Over at the Oil Drum, Rune Likvern says up to 3 million barrels a day of oil is being bought purely for storage, including on the sea. But he predicts that such purchases – which help to prop up prices – will decline because storage is becoming harder and harder to find; when they do, Likvern says, prices will fall substantially.


It’s a fool’s game to predict oil prices. That doesn’t stop a lot of people, of course, especially the traders.


Reader Comments
bob
May 12, 2009 06:54 PM
Ask Goldman Sachs who writes many of the oil contracts. Someone has to pay for all of those Derivative Exposures!
Percentage of total exposure to Risk Based Capital is over 1,000%. And we know every Memorial Day many take to the skies and highways, what a better way to pay off some of that Debt. Consumers get played with again.

Strategery
May 12, 2009 07:15 PM
Here's what I don't understand about the 'free' market: why are consumers the ones paying for an oil bubble? If it were truly a free market, the investors would be the ones paying for the bad bets and consumers would pay the true price based on supply and demand. The bubble became obvious in 2008 when the price of oil and gasoline both peaked on the SAME DAY. Economists claim that there is a disconnect between oil and gas prices, so how do you explain that event? Looking at the numbers, supply was UP while demand was DOWN during 2008. The oil bubble in 2008 was created by the same big investment banks that were losing big money on bad loans--the same banks that have received TARP money. Don't count on a 2009 oil bubble--Obama will not let the market run afoul as it did last year. Also, on the demand side, the number of vehicles on the road is actually falling and any new vehicles are expected to get better gas mileage as hybrids become mainstream.

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