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Oil Speculation At Fault

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According to a report by Masters Capital Management released Wednesday it was speculators and not supply and demand that pushed oil prices to $147 a barrel. Reportedly speculators invested $60 billion in the oil markets during the first five months of 2008 causing a monster bubble in prices.

Masters said those same investors withdrew $39 billion since the stampede to the exits began on July 15th. This report from Masters follows up testimony he gave to Congress several months ago with the same claims. Everybody else in the business, the exchanges, the CFTC, the SEC have all studied the bubble and found that it was not the fault of speculators although they capitalized on the move.

If oil, semiconductors, Internet stocks like Google or biotechs with new cancer drugs begin a protracted run every speculator in the market is going to gravitate to performance. Does buying a stock, commodity or future moving higher equate to market manipulation? I don't think so and no other agency that has looked at the problem has come to that conclusion either. Every investor strives to buy rising investments.

Those with millions to invest do move the market but normally there are an equal number betting against them so the rise in prices is orderly and kept in check. In the oil markets in early 2008 there was a strong fundamental story and it was compelling enough to keep the bears at bay. Once the story weakened the sellers returned to the market and the rest is history. Oil fell to $101.57 today and roughly 35% off its July highs. Investors who profit from momentum also lose when that momentum turns against them. When they play in thin markets the same low volume that pushes prices higher when there is an imbalance of buyer interest also slams markets lower when that buyer interest wanes. Exiting large positions built up over months is nearly impossible without major losses.

The Masters report was released by the House and Senate sponsors of bills to put additional controls on oil market speculation. The CFTC is expected to release its report next week and it is expected to again contradict the Masters report.

Putting limits on investors on how much profits they can make is a dangerous concept. In the commodities markets speculation is required to provide an orderly market and allow the producers a method to hedge their products. Without speculators the volume would decline to dangerous levels and bid/ask spreads widen to levels where producers could no longer hedge their risks. If you curb speculation in commodities then the next step is metals, stocks, interest rates, etc. Is a $20 profit on a gold contract excessive or would they draw the line at $50? If Google spiked $50 on a blowout earnings report does that make all those investors who bought ahead of the report villains who have to confess their earnings and take their punishment?

The only problem with the speculation in the oil market is the impact on every individual when they buy gas. Nobody ever complains when that same speculation kept prices artificially low and gas was cheap. American consumers don't buy gold, corn or Google every week as part of their weekly budget so they don't feel any specific pain if corn limits up for two weeks in a row on floods in Iowa. Eventually the prices will rise in their cereal products but that is invisible to consumers. I think lawmakers are treading on dangerous ground here and they should tread carefully.

Hurricane Ike continues to veer slightly northward and western Louisiana is coming back into the target range. Ike is so large that the outer bands are already hitting Florida and should hit Louisiana on Thursday. I am betting that the track continues to move eastward from its current location. I would not be surprised to see it hit much closer to New Orleans than is currently predicted.

Jim Brown

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