Greed, Part 2: Whither Oil?

Includes: CVX, RIG, XES, XOM
by: John Lohr


Oil: Does it play by the supply and demand rules? No.

Take Dubai, for instance: Is there risk, transparency and diversified commerce? No.

This is a bit of history, a bit of fact, a bit of speculation, and a bit of opinion on risk.

Does Greed drive oil? Take Dubai, for instance -- what images come to mind? Is it the Las Vegas of the Middle East, the world's tallest tower, indoor ski slopes, man-made islands, gold-plated limos and wealthy tourists? Or, when you think of Dubai do you think of a stable industrial and commerce-based economy that would be a safe place to park your money? I didn't think so.

This vague semi-autonomous city state -- one of the seven emirates in the commercial federation called the United Arab Emirates -- is shrouded in secrecy and exists to perpetuate the obscene wealth of the few. On the last Friday of November 2009 (Black Friday to us shoppers in the United States) something called the Supreme Fiscal Committee told their creditors that they wanted to delay paying on their $60 billion debt for six months. Apparently they had a cash shortage (don't we all?). The issuer was Dubai World, their flagship standard bearer for Dubai global investment. Worldwide stock and bond markets were rattled. What Dubai did is like you asking your mortgage company to give you six months of no mortgage payments because things are tight. Their bonds went to junk and real estate tanked. Good luck with that. In 2010, Dubai World bonds (not guaranteed by the Dubai government) were "restructured" (read: halved).

Greed drove investors to what has been called "promiscuous" buying of Dubai junk bonds the past few years when other markets were adjusting downward. Let's see, the Dubai bonds were not backed by the full faith and credit of the Dubai government (whoever they are). They were touted by some investment firms as a "hot investment for real estate, hotels, etc." In 2015, Dubai itself said they were a "sound" investment (at a joint investment conference with their synergistic China.) Since 2015, their Nasdaq clone is down 13%. In fact, for the past 15 years, the entire Gulf has been a major international investment as European (and some U.S.) banks threw money at the home of the "street of dreams," even the central bank of the United Arab Emirates. A sound investment? There is no transparency in Dubai investment. No information comes from under the tight lid they put on what they're really doing. We had an investment guy here pretty much like that recently, named Madoff.

What happens when greed takes its pound of flesh (and it always does) is a flight from riskier assets into dollars, and U.S. treasuries go up. The dollar and Treasuries are considered to be safe havens when other markets act goofy, and that's what happened or at least it used to. We'll see going forward.

So, Dubai is a piece of nowhere in the middle. Why were banks and governments and investors falling all over each other to throw money into it? You are going to build a luxury hotel and tourist destination in a country that prohibits booze and places extensive restrictions on the rights of women? Why do you do this thing?

Oil. Black gold. Texas tea.

It seems like every summer I write about the price of gasoline. It is no coincidence that the months when consumer demand is the highest see the highest prices for gasoline, but don't blame the gas station owners or franchisees. Big oil companies, Wall Street speculators, and middle eastern sheikdoms drive the price of oil.

Last year at this time, oil was hovering around $40 a barrel. Today it's in the low to mid-$50s Usually we talk about markets in terms of supply and demand. It's true for stocks, bonds and most commodities, but not oil.

The futures market is an artificial derivative market in which investors buy and sell pieces of paper based on future prices of things -- like oil. For instance, on June 5 you could have purchased a futures contract to sell on July 9 for $68.81. If the price of oil on July 9 was higher than $68.81, you make money; if not, you lose money. For every buyer, there is a seller, and one of them loses money.

Most agricultural futures are traded at the Chicago Board of Trade. Oil gas and precious metals are traded at NYMEX -- the New York Mercantile Exchange. NYMEX is a type of oil, gas and metals gambling casino where high-strung 30 year olds artificially manipulate the prices for their own benefit. The exchange is not regulated by the Commodity Futures Trading Commission (CFTC), although any broker that tries to sell you futures must be licensed and regulated.

Make no mistake oil prices are not driven by the supply and demand forces that drive some of our economy. They are driven by speculators who right now are jacking up prices for their own greed. It is estimated that the lack of controls on oil price trading and the greed-driven market cost U.S. consumers $1 billion a day.

For instance, in the past two months, the U.S. inventories of oil climbed while the demand for oil here and in the largest consumer country, China, sank. The spot price of oil has gone up. It's the greed mentality of: "We're not selling as much as we used to, so let's raise prices so we can make more money." Wall Street thinks that it's a bad thing that the economy is standing in the way of investors making barrels of money. There is no shortage of oil.

In fact, there are hundreds of millions of barrels loaded in tankers out in the waters right now. Goldman Sachs and Morgan Stanley (both of which have brokers which sell futures to consumers) actually own boatloads of oil. They bought it at around $35.00 a barrel and they're floating it out there until the price is high enough that they can make a gazillion dollars or so. It is not objectivity that caused Goldman to revise their oil price prediction for 2017 to $57.00 a barrel and saying oil will hit $60 a barrel in 2018. They will make it happen.

At the Reuters Global Energy Summit last November, oil and gas executives agreed that oil prices need to be higher. They're not making enough profit. (Note they're not losing money like you and me.) The OPEC Secretary General, Mohammad Sanusi Barkindo, in 2017 said there needs to be a curtail in oil production so the price can reach $60 to $80 a barrel or so before they can make enough. (I'm paraphrasing, but you get the point.)

The end result is that we will be paying more for oil and gas products in the near future. The powers that be will make it happen. What can we do about it?

  1. Invest in oil and try to profit from it? The S&P Oil and Gas Services ETF (NYSEARCA:XES) rose 31% in the last six months, although it's off $25 from its 2014 all-time high. That's still a bad idea on the risk side. (See my coming ETF bubble article.)
  2. Buy stocks like Exxon (NYSE:XOM), Chevron (NYSE:CVX), and Transocean (NYSE:RIG)? The results there are unknown.
  3. Buy an electric tractor and a long extension cord?
  4. Complain?

The only sensible thing is to do what reasonable investors should do -- complain, and dig a little deeper.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: This is not an investment tip. It is about investment risk. If you want to consider whether to buy or sell oil, take a look here on SA for those professionals who know about commodities. If you want to know about fiduciary issues, securities fraud and basic economic, investing and retirement content, see us at Regards, JL