There are plenty of explanations for what’s happening in the global oil markets. It’s caused by the economic boom in the world’s largest developing countries, particularly China and India. It’s caused by the unwillingness of the oil cartel Opec to pump more crude. It’s caused by the fact that the world has reached peak oil – the moment in our history where supplies of the black stuff start to dwindle.
All of these factors may have contributed to the upward trend in the oil price over the past six years, which has seen the cost of a barrel of crude rise from around $20 a barrel to $135 a barrel today. None of them really explain, however, why the price should have gone up by more than $5 in the past 24 hours and by a third in little more than a month. That sort of price action is the result of a speculative frenzy of the sort that was witnessed in the dotcom mania of the late 1990s. The oil market, to put it simply, is a massive bubble waiting to be popped.
Bubbles have certain common characteristics. One is that prices move extremely rapidly. Another is that prices rise on the flimsiest of evidence. A third is that any piece of evidence can be interpreted as a reason for piling into the market. All three apply in this case; as Nick Parsons, head of strategy at NAB Capital noted: "It’s definitely a bubble when a firm knows it can come up with a high forecast, stick it in 24-point type and somebody will run it as a headline. I have never seen price action like this that has proved to be sustainable."
Those who think the oil price is destined to go ever higher might like to consider the recent 40% drop in wheat prices, which was the centre of its own speculative whirl a couple of months ago. They should also look at non-oil commodity prices, which are showing zero year-on-year growth: only to be expected given that the US is either in recession or on the brink of one, and that the rest of the developed world is slowing down too.
But in the oil market, the fundamentals no longer matter. All the reasons for higher prices – strong emerging market demand, inadequate supply response, peak oil – have been known about for a very long time. In a rational market, they would already be in the price. But bubble markets are not remotely rational, which is why it is impossible to say how high the price will go or how long the boom will continue before the bust arrives. But make no mistake, that moment will come.
Eleven years ago, after doing a lot of studying and a lot of thinking, Richard Rainwater convinced himself that the long decline in oil prices that had begun in the early 1980s was about to end. As a billionaire who had made his name and fortune steering the Texas oil riches of Fort Worth’s Bass family into lucrative nonenergy investments like Disney stock, Rainwater had the wherewithal to act on his conviction. So he plunked down about $300 million of his own money on energy-company stocks and oil and gas futures.
For a while it looked like a boneheaded move. At the end of 1998, the price of oil fell below $10 per bbl. Regular gas sold for 90¢ a gal. While Internet billionaires were being minted to the right and left of him, Rainwater was getting poorer by the day. You can guess the rest of the story. The dotcoms imploded; the price of oil climbed, climbed and climbed some more–and Rainwater’s energy bet came to look like one of the better investment calls of our time. It has netted him about $2 billion, vaulting him from the mid-200s on Forbes magazine’s 1999 list of the 400 richest Americans to No. 91 last summer (with $3.5 billion overall).
So guess what Rainwater did a few weeks ago, right after oil prices topped $129 per bbl. for the first time? "I sold my Chevron," he says. "I sold my ConocoPhillips. I sold my Statoil. I sold my ENSCO. I sold my Pioneer Natural Resources. I sold everything." This news, disclosed here for the first time, is a big deal. Lots of Wall Streeters–loudest among them the hedge-fund legend George Soros–have been warning lately that speculation has inflated oil prices into a soon-to-pop bubble. But talk is cheap–this is something more. One of the biggest oil winners of the past decade has decided to get out…
Published Date:15 June 2008For the past 18 months economies worldwide have been at the mercy of the biggest ever commodity price boom. The benchmark CRB commodity index rose 15% in the opening three months of this year, eclipsing moves in the Seventies. Oil has led the advance with a doubling of the price in barely a year.
The boom has combined with a global credit crunch to create a massive policy crisis for governments and central banks. Little wonder that the commodities boom, along with record oil prices, inflation and the wavering dollar are centre stage of the G8 summit this weekend in Japan. This killer combination is driving the world’s most powerful economies towards a painful and extended slowdown – and with pressure on central banks to raise interest rates, not cut them. Inflation in America rose 0.8% last month to an annual rate of 4.2%… Soaring commodity prices, especially of oil and food, have sharply increased inflationary pressures…
The boom, in the eyes of a growing number, has come to resemble a speculative bubble. And they warn that like all bubbles before it – emerging markets in the Eighties, technology and internet stocks in the Nineties, house prices in the US and Britain in the past six years – it will end in bust…
So why hasn’t the bubble burst before now? There are two problems with the ‘bubble’ thesis. One is that there has always been speculative activity in these markets and that warnings of a bust have been around for a long time. The second is that matters have been exacerbated by the behaviour of central banks. The oil boom, buoyed by recent confident predictions that the price is heading towards $150 a barrel, if not $200 over the next few months, has to a significant degree been driven by a weak dollar for most of this year – a policy tacitly agreed by the US authorities as an antidote to the credit crunch…
How long can the oil price stay above $130? The supply-demand fundamentals do not explain the sharpness of the ascent this year – 60% since January. Nor does it make any allowance for the reaction of the end consumer. Stockbrokers Charles Stanley estimate that oil speculators have amassed 1.1 billion barrels of oil, more than eight times the amount added by the US to its strategic reserve, making them the largest single influence on oil-related commodity futures trading. William Enghadi, research associate at the Centre for Research on Globalisation, conservatively estimates that "at least 60% of today’s crude oil price comes from unregulated futures speculation by hedge funds, banks and financial groups".
It would be wholly wrong to suggest that speculative activity in the futures market is solely or even mainly to blame for the spectacular rise in oil. But it has certainly exaggerated the price trend in recent months. One characteristic of a pending bust is when the price of a share or commodity becomes a national – or supra national – obsession. That is certainly the case now, with riots across Europe and Asia and haulier protests and blockades in the UK…
There are signs that the commodities bubble may already be bursting in some areas. Prices for wheat and rice have come off the boil. Nickel prices have fallen by 25% since mid March. The economies of the oil consumers are now slowing and oil demand falling as businesses and households cut back. At the same time, governments in developing countries that have been operating price subsidies to shield consumers from the full impact of fuel price rises have been forced to lower or withdraw these subsidies in a move that will hit demand hard. Longer term, oil demand will be further hit by the accelerated push towards alternative energy sources…
The bursting of the bubble will ease matters greatly. But it will mark an epochal shift, from a prosperous era to one altogether more chastened.
Notice the dates on these articles. The oil bubble burst on June 15th, 2008. Also notice "…conservatively estimates that "at least 60% of today’s crude oil price comes from unregulated futures speculation by hedge funds, banks and financial groups." I don’t know any way to confirm that the OIL bubble was fed by the same kind of speculators in the Commodities Casino created by Deregulation through the Gramm-Leach-Bliley Act and the Commodity Futures Modernization Act [the kind that brought us Enron and the HOUSING bubble] except from comments like this from financial reporters. But I’m suspicious that it’s a similar phenomenon – a regulatory hole that the speculators drove a truck through. The key word is "unregulated." I honestly don’t know how one regulates or oversees a futures market. I think that was the problem back when the Commodity Futures Trading Commission was formed and they couldn’t decide how to regulate certain kinds of futures, or whether it should be the job of the Securities and Exchange Commission. The Shad-Johnson Accord was the compromise between the CFTC and the SEC that prohibited trading of the confusing futures until they figured it out. They never did. The Commodity Futures Modernization Act of 2000 repealed the Shad-Johnson Accord, so suddenly these speculative futures were allowed and unregulated, creating the Casino for speculators. Look again at when these bubbles started: 
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