High Oil Prices: Hype's Impact

"When money has nowhere to go, it is parked in commodities, as this is one of the few investment instruments that actually rises the more money you pour into it." —Oliver Jakob, an analyst at Petromatrix in Switzerland.

"Oil Near $143 on View Dollar Will Keep Falling," —John Wilen, Associated Press, June 27, 2008

Dear Peter,

First of all, I would like to thank you for your response (BusinessWeek.com, 7/8/08) to my recent column (BusinessWeek.com, 6/27/08) on the oil futures markets. I would also, humbly, like to thank you for pointing out that I've become something of a hero to the middle class in America for my columns on energy. Obviously, I didn't set out with that particular goal in mind. Nor do I have a problem with futures markets in general; they are responsible for injecting badly needed liquidity into commodities for our future use. From what you have written, I can see numerous areas where we agree completely.

But I don't believe that either one of us has helped our readers grasp one hard reality: By 2015 the world will be faced with a legitimate and serious oil supply-and-demand problem. Many oil insiders have told me that it will be an enduring energy crisis that has the potential to radically reorganize our economic society.

While the International Energy Agency is not usually my favorite source of information, I put great credence in Charley Maxwell of Weeden & Co.; Maxwell was quoted on Energytechstocks.com in February as predicting oil supplies would tighten starting in 2010. He said that peak production would come a few years later and that oil might be priced at $180 a barrel by 2015; and he added that it will take "$12 to $15 a gallon [for gas] to get Americans to let go of their precious freedom of mobility." Scary stuff—and yet, looking at the charts for increased oil production in the future against growing worldwide consumption, I tend to believe Charley's prediction. As I told a group of students at Texas A&M earlier this year at the annual Student Conference on National Affairs, "We are leaving you a far worse world than our parents left us."

On the other hand, in a BusinessWeek.com column (BusinessWeek.com, 8/15/07) I wrote last year, I suggested that, to alleviate our current and future energy problems, Americans should improve our energy efficiency—and was roundly blasted by readers. I wasn't their hero that day.

We also are in agreement as to the profitability of refining diesel. You are exactly right in stating that we are not able to refine enough lower-sulfur diesel. That Middle East refiners find it more profitable to sell their sulfur-laden fuels to Asia, while Europe's product constraints make it incapable of exporting much diesel to the U.S., is also true.

Still, we have a few items on which we disagree.

Traders vs. Speculators vs. Manipulation

First, you mentioned that I have put much of the blame on speculators and manipulators for today's current oil prices, adding something to the effect that I should not put much faith in any statement of fact by a member of Congress. Let me clarify: It wasn't politicians but expert witnesses and their testimony in front of Congress that formed the basis of my articles.

Next, I'm sure you didn't mean to suggest that speculation and manipulation are both acceptable behaviors in tight commodity markets. As we both know, there are three classes of traders in the futures market:

1. Traders—people who are bidding with the intent of actually taking delivery of the goods on the contract's due date;

2. Speculators—those who are simply there for the profits to be made by flipping paper; and

3. Manipulators.

To the best of my knowledge, manipulation of the market is still illegal. In fact, most have forgotten that BP (BP) was caught manipulating the propane market in the winter of 2004 and fined $373 million.

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