The Oil Bubble Will Meet the Same Fate as Tech, Housing
Over the last ten years the S&P 500 has returned a meager 2.88%. Why? Because in the long run the market doesn’t like bubbles. We’re now in the third wave of bubble euphoria and we’re hearing the same underlying message that we heard during the first two, just in different terms. During the dot-com era we watched tech fly to P/E multiples of 200 and above. When fund mangers were questioned about investing in such companies back in 1999, they collectively responded by saying times had changed. Lofty valuations became the new norm-until they crashed that is. The Nasdaq (QQQQ) still isn’t even half of what it was in 2000. The market’s punishment of the dot-com bubble has lasted for seven years.
Real estate investment shifted into bubble status due to low interest rates and easy lending practices advocated by the Greenspan Federal Reserve. Back in 2005 it was difficult to find anyone who didn’t want to jump into real estate. Flipping homes was the new trend for amateurs. Unfortunately it’s always the last guys in who get burned by a bubble. Those developers are being suffocated from the holding costs on their sinking investments. After watching home prices double and triple, nationwide home valuations have plunged since 2006 with more yet to come. Homebuilders (XHB) and financials (XLF) have been crushed by the bursting real estate bubble and it will likely take years before these stocks regain prior highs.
Now it’s oil (USO) that's bubbling. Two weeks ago oil prices reached a 600% increase since the bull market began. The oil bulls are using the same arguments that we heard from tech analysts in 1999 and real estate agents in 2005. They will use any rationale they can find to shift our focus away from the fact that gasoline shortages don’t exist and new oil is plentiful. There are now 53 commodity ETFs and ETNs that have caused average daily volumes to soar from 5 million in 2006 to well over 30 million today. History will repeat itself and the last guys in will get burned. Industry insiders believe that the proper valuation of crude is somewhere between $40-$50 a barrel. When will this bubble burst? Nobody can predict the exact time but the essential elements are in place: the Fed is done cutting interest rates, Bush is waiting on Congress to lift the offshore drilling ban, Congress in considering limits on speculation and high gas prices are decreasing demand.
The conclusion is that we are hearing the same story coming from the oil sector that we have heard in previous bubbles. They will tell you that this time is different, or that the fundamentals have changed - when they really haven’t. The only thing that has changed is sentiment. This bubble will burst just like the last two and it will be ugly for those who have gotten caught up in the hype. Over the next six months investors should average in to a short position in the U.S. Oil Fund (USO). Be suspicious of alternative energy as well. Solar, wind, natural gas, etc... will all fall with oil.
Disclosure: Long DUG
This article has 83 comments:
By the way, I made a 60 year crude oil chart today on a log scale and found a nice little channel (big channel actually) with resistance bang on 140 or thereabouts. It will be interesting to see if it is borne out by a top in the coming months.
9
But even if this market eventually corrects itself, one has to wonder, why is the cost of oil is so disconnected from the cost of production, refining and distribution, and why is it disconnected from actual supply and demand?
We can see clearly now the supply chain is corrupted when futures market pricing drives retail prices in real time (but of course in the up direction only - prices at the pump somehow never fall as fast as they rose).
Speculators should be free to make whatever speculative bets they like in free markets. However, there is no reason those bets should affect the underlying subject of the bet.
When you bet on the outcome of a sports game in Las Vegas, your bet has no affect on the score of the game (unless there is corruption which of course would be, uh, how should we say, Illegal).
Can you imagine what would happen on the field if the players had a stake in the betting action on the game and the odds were posted on the stadium scoreboard in real time during the game? This is what we have in the oil markets today.
In the same way, speculators should be able to bet in a disconnected way on the future price of just about anything. But their bets should not drive the market or corrupt the supply chain. And this is what we must achieve in the oil markets or we will certainly have more bubbles in the future.
The price of a commodity is a kind of score. And the scorekeeping must not be in the hands of the gamblers in the oil markets any more than it is in the sports betting markets.
Not to mention, this is the age of the Internet, the great disintermediator. Name one industry that has not been disintermediated by the net. Oh, yeah, Oil.
Why can't I buy my own barrels of oil direct from OPEC? Why must I buy through a corrupt, unregulated and disorderly commodity exchange market?
Where is the Amazon and Orbitz of the oil market that puts the customer in control? It sure isn't the commodities market.
As to drilling in Anwar, et al in the U.S., before we go down that path and begin consuming our reserves, we must ask ourselves some very fundamental questions.
So let me ask you this, if you could choose between these outcomes, which would you pick? We run out of oil before the Saudis. The Saudis run out of oil before we do. We both run out at the same time.
Now what do you suppose the odds are that we and the Saudis will both run out of oil at exactly the same time. You got it - that will never happen. So we are left with the other two.
I don't know about you, but if I had the choice, I would rather see the U.S. be the last oil field standing (our children's children and all that), so I'm not that eager to see us start the drilling quite yet. Oh and since we know that the price of oil has nothing to do with supply and demand, all the drilling in the U.S. will do nothing to bring down prices. Sad, but true.
So we are left to other means of ensuring that prices are not corrupted by the markets. Anyone have a plan for that?
Over the past few month we have been seeing a huge demand destruction, lack of physical buyers and emerging markets slowdown, yet Crude kept rising.
We will be able to call oil's awesome move a bubble if...
1. demand destruction continues
2. new supplies come on line to meet future growth demand
3. how quickly the US can adjust to alternative energy vehicles
4. geo-political threats ease
All of which will continue to create downward pressure to oil, and fortunately are in the cards, but we can't call oil tulips just yet.
2
I don't agree with the 40$ oil statement about industry insiders (Boone Pickens, an insider, sees it at 100$), but still the article is very insightful.
Speculators have an essential role in the oil market, but the so-called index investors (mostly large passive pension funds who look for the diversification benefits of investing in commodities) do not. Index investors do not serve a specific purpose on the market; they only put upward pressure on the price of the barrel that is unfortunately not always corrected by speculators. This has the effect of transfering wealth from net oil importing countries to net exporting countries.
Explanation:
The portfolio of the pension fund that invests in oil will get greater benefits from diversification, but it comes at the expense of its clients (us, individuals) paying significantly more at the pump. Therefore it's actually a very unprofitable and short-sighted strategy by pension funds to invest in oil futures, since their clients lose a lot more than they gain from it!
It would be nice, but unlikely, to see the US government regulate the index investors, and letting speculators do their job.
GORILLA
The price of oil "falls" to $130 a barrel, and doomsayers come out of the woodwork.
The key here is your statement "gasoline shortages don't exist and new oil is plentiful" ...you have no facts to back this up, only your own beliefs ... inventories are at a five year low ... the amount of finished gasoline in the system is so low that spot shortages are very, very likely to begin occurring later on this year ... exploration and new drilling and other capital investments are at an all-time high, yet the new oil coming on line is not anywhere close to replacing the decline of the huge old discoveries such as Cantarell and Ghawar ... the fact is that worldwide, total oil production has gone into a sharp decline since 2005 ... yes, the "high" prices now have contributed to some demand destruction, especially in the USA ... but the supply is dwindling still faster than demand ... yes, we have a correction to $130 from $145 .... but the trend is still in place, and if you are still short, then you deserve very bit of what happens to you going forward ....
The last time the oil bulls ran amuck. We did not have an oil man for president. They released millions of barrels from the stockpiles into the market. The price dropped like a rock. Ending the supply vesus demand arguement,
Short selling is not the same as naked shorting. The trouble with the market is nobody sees the rigged game. Goldman sachs oil will go to 200.00 What losses on other investmets are they tying to recoup. So we buy in to every rumor blogger sound bite. Trendy get rich quick deal, Buffet is Buffet because he plays the long game.
HELLO you have a shortage of oil when you have a line around the block at every gas station and you can only buy gas on alternate days based on the odd or even last digit on your license plate.
Yea that reallly has happend puppies. Yes .COM < REAL ESTATE< now OIL has bubbled, Game over. YES SIR history and memory really are an under valued commodity.
Have you ever heard of anybody being able to stampede a herd of Bears. Ah Ha bulls now that is a different animal that does not think about anything but the direction of the stampede.
They don't seem to ask themselves should I be stampeding. Is this real or is it the perception of reality of my own desire.
I can only hope that some of the rules of the game that have been lifed and modified to the detriment of the market are reinsated soon.
Profit is profit it is only greed that makes you want more then enough/ Greed is never pretty.
Question. Why hasn't the global production of oil increased over the past few years as the price has soared? Hmm. Why are all of the OECD producers declining in production? Hmm. Why are the reserve books at the OPEC producers so opaque? Hmm.
No, Jason, this is not a bubble. It is the beginning of the end of fossil fuel as we know it. It has been a very good run this last hundred and thirty some odd years, digging out the cheap stuff and burning it into the atmosphere. But every party must end.
Tell you what. Let's us wager on the chance of $50 oil. Ever again. All in. That way I won't have to keep watching this slow motion nightmare of our global economy unwinding and coming apart.
I can just sit on my beach blowing bubbles.
ookslikeme
Fuentes: A last wish, please, please. Please.
Creasy: Last wish? I wish you had more time.
The last report from the EIA on gasoline indicated the opposite from you claim of being at an all time low and on the verge of shortages. Please post a reference for this claim.
Additionally, with oil being at an all time high, inventories have to be managed better to hedge against potential price drops like what we have seen in last few days. The higher the price of oil, the less the demand, and thus the less inventory needed as buffer. As the demand goes back up, so will inventories.
Guess what? They're sense of direction is as skewed now as it was then.
If oil pricing stays flat at its current level for a while that will be a great gift because it will give us time to develop alternative energy technologies. Spending that time drilling new wells off Santa Monica will be beside the point given what will happen to demand elsewhere in the world. And while those other countries will be clever enough to do some of their own alternative energy development, it's unlikely the fruits of their labor will be anything we can just buy at Home Depot to run our homes.
It's time to wake up and smell the coffee and stop being a nation of wishful thinkers who enjoy nothing more than bad-mouthing trends we don't like as "bubbles" that must be superficial and will therefore go away if we close our eyes hard enough...
ookslikeme
Fyi, unlike probably YOU, there are a chit lot of poor people in these countries that cannot afford an indoor toilet, let alone an "auto" "mobile." Plus, what drives these countries is the unbelievable engine called the "US consumer." If the US consumer stops buying guess what happens to the growth in these 2 countries. Take a wild guess.
www.lifeaftertheoilcra.../
www.youtube.com/watch?...
www.cnbc.com/id/158402...
Try tracking oil in gold prices, which is still not ideal, but is certainly better than using dollars, which are constantly manipulated by the Fed. Using that basis, the analysis looks quite different.
Another flaw is exemplified by this statement:
"gasoline shortages don’t exist and new oil is plentiful"
No evidence is given for this astonishing assertion. The US uses about 20M barrels per day - ~25% of the global total - and when pressed (begged) by the President of the US, the Saudi's - the only exporter in the world with (at least alleged) spare capacity - can only manage to squeak out an extra 200k - 500k barrels per day (and the world expects the Saudi's to generate an extra 10M barrels per day or so in the next decade??). That's plentiful? Have the Saudi's discovered a new Ghawar that I didn't hear about? Doubtful. Thus, there are very real concerns about supply going forward, and 'plentiful' is not the right word to use here.
The market is not based on whether or not there are gas shortages NOW - it's a leading indicator. Priced into oil is the uncertainty about supply and demand in the FUTURE. This analysis seems to miss this point utterly.
Further, there is a major difference between oil and housing on the one hand, and tech stocks on the other: houses and tech companies are not finite, non-renewable resources. Oil is. The same rules do not apply. How is it that so many self-styled 'oil analysts' miss this most fundamental, basic, incontrovertibly vital point?!?!
Oil prices will certainly correct from time to time, but until the uncertainty about long term sustainability of oil supply is directly addressed (and the utter lack of transparency from OPEC and the psychosis emanating from Russia are not encouraging), it's seems foolhardy to assert that high oil prices are a 'bubble', and it seems likely the uptrend, or at the very least a sideways action, will continue. In other words, concrete facts about supply will be required to drive the price trend down. No such facts are in sight at the moment, despite the speculation about demand destruction - speculation does not equal fact.
However, it may be too late for oil, as the alternatives have already started the investment amortization process. If the price of oil goes down slowly and keeps the alternatives competitive, oil may have to get cheaper to compete.
When T. Boone stops hyping oils and starts hyping wind, something is up. GA
The International Energy Agency’s dim forecast to 2013 suggested record oil prices have yet to balance sluggish supply with relatively robust demand.
“Structural demand growth in developing countries and ongoing supply constraints continue to paint a tight market picture over the medium term,” the IEA said in its Medium-Term Oil Market Report.
Despite billions of dollars of investment, the challenge of pumping ever more oil out of ageing fields is proving so great that non-Opec countries will, in the next five year, have to rely on bio-fuels, such as corn-based ethanol, for 50 per cent of their growth in overall fuels.
The IEA said annual non-Opec supply growth, including biofuels, would slow to 0.5 per cent between 2008 and 2013. But demand, supported by rising incomes in developing countries such as China, would grow by 1.6 per cent a year.
Analysts warned the new forecast meant the world economy would rely more on Opec and oil prices were likely to remain elevated.
“Poor supply-side performance . . . in the face of strong demand pressures from developing countries has forced oil prices up sharply to curb demand,” said the IEA.
Crude oil prices moved more than $3 higher to $143.33 a barrel as the market digested the forecast. The IEA said that current prices, which hit a record high this week of $143.67 a barrel, were “justified by fundamentals”.
The fast decline of fields - especially in the North Sea and Mexico, where production is shrinking by more than 20 per cent each year - means that 14.8m of the 16m barrels of new supply from non-Opec countries over the next five years will only go to make up for losses from old fields producing less each year. Stagnant oil output in Russia is another key factor in lower non-Opec supply growth.
Nobuo Tanaka, executive director of the IEA, said in an interview: “In non-Opec countries we want to see more access to resources and more transparency of the legal system because we believe that . . . the underground resource is still there; the problem is above ground.”
Opec, meanwhile, is also struggling, with project delays constraining its ability to add new capacity. The IEA substantially downgraded its expectations for Opec crude capacity from 2008-2013, cutting earlier forecasts by 1.2m b/d.
The IEA said it believed Saudi Arabia was having bigger problems than the kingdom, the world’s largest exporter, was willing to admit to.
These fluctuations in oil supply come as demand growth is continuing, especially in the developing countries, whose oil needs are expected to have almost caught up with those of the rich world by 2013.
Copyright The Financial Times Limited 2008
Montague
Don't bet on $40 oil again.
Sure new fields are being found, unfortunately larger ones like the Tupi are 23,000ft below sea level (including 6,000ft of water), not to mention that every single deep water rig in existence is already contracted out. Couple this with declining production of existing oil fields (including vital ones like the Cantarell & Gawhar) and anyone with a basic grasp of the forces of supply/demand would conclude your simplistic thesis is pure idiocy.
Oil is not an asset, it gets used up by the final buyer.
Oil futures are assets. A bubble in oil futures would qualify as an asset bubble. But since oil futures expire into actual oil, such an asset bubble would necessarily be pricked at expiration time. For bubble students, this maps to the dutch tulip bubble centuries ago.
I'm not so naive as to suggest that futures prices have zero effect on spot prices, but the non-asset nature of oil is a critical aspect of this price rise that needs to be addressed by any bubble theory.
hedge funds with 547 trillions at 2007 count have had a field day
dont get caught in the headlights
It
"Many asia countries and other emerging market countries that didin't demand oil in the past, are demanding oil now. Auto sales in June surged in China for example. We may have some short term price declines in oil, but the long term pressure on prices will be upward. The difference between oil and housing and tech is that oil is a limited resource."
I could not agree more. Comparing the Internet and Housing to Oil is lazy and off course. Yes, commodities have their own bear/bull market cycles buy they tend to play out over longer time frames (say 10 to 20 years - depending on supply constraints) then the traders on this website care to consider.
Shorting oil, especially 2x via DUG, is a dangerous game because you are working against the long-term price trend which is driven by underlying fundamentals of supply & demand on a GLOBAL basis.
Why don't you try not using any gasoline for a week?
Ain't no bubble, my friend, because you and I can't live without it.
yngalpacinolookslikeme -- yes there are a lot of poor people in china.
Do you know that there are also many more college graduates, high school graduates, and people who speak and write English than there are in the USA? No, maybe not, because you didn't, didn't, and don't.
Feverblister --
you are half right ... gasoliine is in the upper half of the range.
Here's the EIA monthly and yearly figures for crude:
tonto.eia.doe.gov/dnav...
Note that the last time inventories were this low was in Dec, 2004.
Note that the US population has increased by 15% since then ...
probably though, mostly by people like yngalpacinolookslikeme
who don't have indoor plumbing, let alone a car ...
Your opinion about inventories being inversely proportional to demand is interesting ... it seems to me that hoarding may be
a factor also and that anyway, the total amount of crude oil and
gasoline in the report, excluding the SPR, is scarcely a one-month supply fur current US usage so it's not really all that significant a factor in the price of crude anyway ...its probably nearly all necessary to keep the supply chain running between the tankers and the refineries and the filling stations ....
As for inflation ... which is far above what the DOL figures claim
and can only continue to increase as the Federal Reserve has to print more and more money to lend to itself, as more and more foreign entities stop loaning money to the USA ...
yes, the imminent collapse of the US government might have an interesting effect on exploration and net demand ... what do you think will happen?
g
Correction, yes! Bubble, no way!
There's no doubt that supply and demand for oil is the primary mover as countries like China and India are demanding a huge amount of oil to develop their economies.
We have enough oil right here but our politicians just don't get it. As for alternatives, they're still years away and while we should work on them we should also be DRILLING OUR OWN DAMN OIL NOW. We have to attack this on all fronts. Alternatives are a wild card. Ethanol is a joke.....it actually creates more pollution and consumes more oil to produce than what it saves. The other alternatives all have pros and cons. We can't afford to wait.
I recall 10 years ago when Pres Clinton shot down the Alaskan Oil in ANWAR. The environmentalist wackos were ecstatic because finally we would come up alternative energy to replace oil. Well, here we are 10 years later and more dependent on oil than ever. If Clinton had opened ANWAR for drilling we would be getting a million and a half barrels of oil PER DAY right now. But Slick Willie was too busy drilling Monica instead.
Now we're the ones getting screwed at the pump!
gordon
> jack
When a government or central bank creates additional money through fiat means, it creates inflation. The real definition of inflation is an increase in the supply of money beyond any increase in specie. By its very definition, it attributes the real cause of inflation to its root source which is expansion of the supply of money and credit through artificial means. Its real cause is an act of fraudulent intervention into the financial and economic system distorting values, investments, and in the process, the distribution pattern of wealth and income within the economy.
It's the printing presses!
An understanding of the real cause of inflation is crucial to an understanding of fixing it once it reappears. Most economists and analysts misdiagnose inflation. The standard definition of inflation today adopted by economists, analysts on Wall Street and the mainstream press is that inflation is an increase in prices. The modern definition of inflation as simply rising prices looks more at the symptoms of inflation and not the cause.
g
And yes the US oil shortage is US government made. Every oil exporter loves democrat politicians. They created the supply shortage and its heaven for overseas oil exporters. America is collectively energy stupid.
The year 2020:
1 billion cars on the world's roads versus 450,000,000 now.
1 billion middle class people on the planet that want all the amenities the middle class (although shrinking) here want.
World oil consumption reaches 115-117mmbopd. No way will production keep anywhere near that.
Tens of billions spent on alternantive energy which, at best, could back out 3% of hydrocarbon consumption.
We still wont have one additional nuclear plant which is by far the most potent alternative energy source and could back out hyrdrocarbon consumption by 25%
We still wont have an energy policy due to the continuing disintegration of the quality of people in Congress
If oil companies started the process of drilling on offshore and nature preserves we still wont have one drop of that oil by 2020
Conclusion:
If a viable alternative for hydrocarbon consumption is found but yet not discovered we will be looking at $200 oil not far in the future
Comparing the dot.com tech bubble and the housing bubble to an oil bubble is ridiculous. The vast majority of the dot.com tech bubble was caused by unworkable or nonexistant business plans, outright lies and fraud by the so called tech analysts (and you know who they are) and stupidity. In a dot.com tech all the assets go home at night.
The housing bubble was caused by a symbiotic and illegal relationship between lenders and borrowers and our former esteemed Fed Chairman, Mr. Greenspan.
Oil on the other hand is a worldwide finite and consumable commodity which will be with us for decades to come in diminishing supply.
This temporary volatility in oil prices will eventually subside and will continue it's upward climb.
Looking at the headlines in Barons this week, one would find not one article on oil or energy, but lots of headlines about the financials. Does that sound like an oil bubble?
We could be in an oil bubble, but if so, we are not yet at the breaking point. Much more emphasis will be on oil and energy at the peak (sic), and much less emphasis on the financials. We are not there yet!
roulee
But, please don't tell me about the vast new shale oil just ready to ramp up (same story fifty years ago), or how tar sands will add the 5 million barrels/day/year just to offset the existing field declines, or how MAYBE a million more barrels/day of new US offshore drilling in ten years will affect the 85 million/day world production. Please, learn the facts before your write the article, junk like this article is preventing action on a real energy plan.
What happens to the USA if we get supply interuption? WE import 70% of our energy......remember the lines at the gas pump,that happened when we imported 24% of our energy needs.
Sad to say but I believe this is no bubble.All of our conservation in this commodity will be absourbed by China and others.
This is a wake up call long overdue,and the worlds most deliberative body is tone death.
Tiedeman
Whitey
peakoildebunked.blogsp.../
omrpublic.iea.org/
Regarding oil: having said that, looks like a good time to buy PBR or USO on this pullback.
Republicans
Tiedeman
Wizard
Alsaadi
However the market is doing its trick, the market have risen so much as to align oil supply with crude demand, the goal of a rising oil price is: demand destruction, this is how markets function, this is their function, their function is to match supply with demand, and they have done their magic.
The question now is not about how high oil will go, the question is for how long oil prices will remain elevated?, as long as supply remain tight, prices will remain elevated, since lower prices will lead to more demand and quickly reverse oil prices higher again, for the oil price to push higher $150+ either supply need to decline further, or demand need to increase while supply remain constrained.
The world of sub $100+ is gone and probably gone for ever, as the world continue to consume 3 barrels of oil for each barrel is discovers, thus it is logical that the remaining reserves will continue to gain in value as the scarcity premium grows with time.
Further more it is worthwhile to remember 2 things going forward, world oil reserves in the middle east are questionable, as many countries such as Saudi Arabia, Kuwait, UAE and Iraq arbitrarily raised their reserves to gain a bigger OPEC production share (in the 1980s OPEC allowed you to produce more oil if you had more reserves), the second issue is that world oil demand in the developing world and oil exporting countries themselves is exploding, for the developing world it is economic advancement and the launch of Ultra Cheap Cars such as the Nano by Tata, while for the oil exporting countries oil demand is cutting exports as more oil is kept to service the internal economy, thus it is vital to look at total available oil for exports and not just production to gauge future oil prices.
Finally, it seems ever the late 90s tech bubble rook place (and the bubble concept become more wide spread), everyone became a bubble expert, whenever something rises, the bubble people go out screaming: it is a bubble, with total disregard to fundamentals, for some reason the bubble logic has replaced basic economic theory.
Regards,
Nawar
Thank you for your intelligent observations.
If you think the world is awash in "easy" oil you have a sad reality to face. If you think Americans will scale back their consumption appreciably you have yet another sad reality to face.....we are addicted to the stuff. If you think the people of Asia and India will go back to riding bicycles you have yet another reality to face.
An even more frightening scenario is that alternative energy sources of appreciable scale are decades away.
I really hope it is a bubble but unfortunately I think there is much more at play here than greed and speculation.
Wizard
Thanks to our boneheaded environmentalists and dumbass politicians, we have become energy slaves DESPITE all the oil we have right here in this country. Don't believe the BS about it taking 10 or 20 years to extract this oil. With the technology we have now the oil in the ANWAR region of Alaska could be flowing within 2 years. The rest may take a little longer. But WE HAVE TO START somewhere, sometime and that time is NOW or never. Alternatives are years away and may or may not work out. OIL is ALL we have right now and unless we start DRILLING NOW, we will be facing GREAT DEPRESSION II within a few years.