Tuesday, April 18, 2006

$100 Oil Bet Update

Summer driving season has yet to commence, but oil is already threatening to surpass its all time high price on the NYMEX:

Light sweet crude for May delivery was trading up 15 cents at $70.50 a barrel on the New York Mercantile Exchange. The contract rose as high as $70.88 a barrel in electronic trading overnight, surpassing the previous record of $70.85 reached August 30, in the midst of a record hurricane season in the U.S.
"Iran is still the main driver," said Tobias Merath, an analyst for Credit Suisse in Zurich, which is forecasting oil prices between $65 and $72 in three months, with a level of $75 a barrel seen as the top.
The oil market is worried about the increasing tensions between Iran and Western governments seeking to pressure Tehran into halting its nuclear program.


The Iranian situation will not resolve itself very quickly. Look for escalating rhetoric on both sides to keep the market jittery for the rest of the year. Add to that the normal summer demand spike, and memories of Hurricane Katrina as hurricane season cranks up, and we could see $100 before Labor day.

7 Comments:

Blogger Susan's Husband said...

Are the Iranians smarter than we think and using their rhetoric to keep the price of oil high? Could the extra income be enough to cover the nuclear weapons program costs plus extra?

It might be that the rhetoric is aimed as much as raising cash as appealing to a domestic audience.

April 18, 2006 2:05 PM  
Blogger Harry Eagar said...

I don't think 'smart' is the apposite word.

The question ought to be, are the Iranians as crazy as they sound?

It's not so clear to me that $100 oil is a big deal. We had (adjusted) $80 oil in the early '80s, and while it was uncomfortable for some, it turned out to be no big deal.

Since then, our income is up and our relative use of oil (per unit of work) is down.

I'm already paying $3.38 for gas, and it has been months since anybody has called to complain.

April 18, 2006 2:13 PM  
Blogger Bret said...

Duck wrote: "Add to that the normal summer demand spike, and memories of Hurricane Katrina as hurricane season cranks up, and we could see $100 before Labor day."

September Crude (NYMEX) closed at $74.71 today (this includes the expected "summer demand spike"). You can buy a call option with $100 strike price for a mere 35 cents per barrel. If you have any confidence at all, you can make a killing for relatively little risk.

Nonetheless, the market pricing still heavily favors oroborous. It is exciting though. I'm enjoying this bet immensely.

One last note. Remember what happened to the price of crude the day the first gulf war started (Jan 17, 1991)? It dropped 20% overnight. So an actual military operation against Iran may or may not drive the price higher.

April 18, 2006 9:49 PM  
Blogger Harry Eagar said...

My friend the pawnbroker tells me he's $100K long on silver, the first time he's gone long on precious metals in 20 years.

Silver has risen nearly 50%. If you wanna bet, there's more action with metals than oil right now.

April 19, 2006 11:17 AM  
Blogger Duck said...

Bret,
I know about the theory that the price includes all future assumptions about supply and demand, but if you followed that logic completely then you would not expect to see any price movement from day to day.

But the price being quoted is only the forward month contract, for May delivery. Futures for June through October are all higher, from 73.95 for June to 75.73 for September. Does that mean that the September contract accurately predicts what the forward month contract in September will be? Hardly. It only gives an inkling of how much a buyer today is willing to pay to guarantee a supply in September. The fact that these buyers are willing to pay more for September delivery than May suggests that believe the odds are good that the spot price in September may be higher than $75.

April 19, 2006 5:40 PM  
Blogger Bret said...

Duck wrote: "Does that mean that the September contract accurately predicts what the forward month contract in September will be? Hardly."

It depends on how you define accurate. In my view it's quite accurate. Consider the following data (from my archives when I was a futures trader):

CL MAR 1984 29.91 29.7528
CL JUN 1984 30.75 29.4454
CL SEP 1984 29.03 30.55
CL DEC 1984 28.44 29.5772
CL MAR 1985 27.8 28.3456
CL JUN 1985 28 25.8596
CL SEP 1985 28.09 26.915
CL DEC 1985 31.72 26.2714
CL MAR 1986 14.17 27.6988
CL JUN 1986 16.04 18.463
CL SEP 1986 15.26 13.3824
CL DEC 1986 15.08 13.6592
CL MAR 1987 17.77 15.2346
CL JUN 1987 19.87 17.6808
CL SEP 1987 19.42 18.4222
CL DEC 1987 18.93 20.0468
CL MAR 1988 16.62 18.9872
CL JUN 1988 17.17 16.4578
CL SEP 1988 15.76 17.5976
CL DEC 1988 13.6 15.7328
CL MAR 1989 18.59 13.8312
CL JUN 1989 20.93 16.824
CL SEP 1989 19.08 18.2214
CL DEC 1989 19.86 18.2686
CL MAR 1990 22.19 19.4698
CL JUN 1990 18.26 21.017
CL SEP 1990 28.41 19.6204
CL DEC 1990 31.5 23.6806
CL MAR 1991 20.48 30.4208
CL JUN 1991 21.4 20.195
CL SEP 1991 22.27 20.6554
CL DEC 1991 22.22 21.3044
CL MAR 1992 18.54 21.8988
CL JUN 1992 20.12 19.0968
CL SEP 1992 21.44 20.873
CL DEC 1992 20.4 21.3206
CL MAR 1993 20.02 20.756
CL JUN 1993 19.54 19.9724
CL SEP 1993 18.09 20.4864
CL DEC 1993 16.56 18.5874
CL MAR 1994 14.24 17.7008
CL JUN 1994 18.92 15.3162
CL SEP 1994 16.87 16.8008
CL DEC 1994 17.47 18.2988
CL MAR 1995 18.86 17.7708
CL JUN 1995 19.81 17.9376
CL SEP 1995 18.54 18.9924
CL DEC 1995 18.57 17.237
CL MAR 1996 21.05 17.2598
CL JUN 1996 22.65 17.7568
CL SEP 1996 22.86 18.9708
CL DEC 1996 23.76 20.3192
CL MAR 1997 21.98 22.9928
CL JUN 1997 21.19 22.1016
CL SEP 1997 20.06 20.2252
CL DEC 1997 19.16 19.9616
CL MAR 1998 16.15 20.5882
CL JUN 1998 12.96 17.1132
CL SEP 1998 13.54 16.3682
CL DEC 1998 12.14 14.6894
CL MAR 1999 11.96 14.1062
CL JUN 1999 17.03 12.7396
CL SEP 1999 21.65 17.237
CL DEC 1999 26.75 20.8574

The next to last column is the expiration price (final settle price) for the specified contract. The last column was the average price of the contract between 100 trading days before expiration and 50 days before expiration. I didn't bother with the last 50 days before expiration because those are inherently going to match better. So we're looking at the predictive value at least 50 trading days before the expiration date.

As you can see, all but 5 of the average prices are within 25% of the expiration price. I think that's a remarkably accurate prediction that far ahead of time (50-100 trading days).

The average of the settles is 20.34. The average of the averages is 20.00. Less than 2% different. 29 times out of 64 the average is above the settle, 35 times it's below (and that will pass any random runs sort of statistical tests).

The point is that there is no easily gleanable information that isn't already in the price. Your last statement:

"The fact that these buyers are willing to pay more for September delivery than May suggests that believe the odds are good that the spot price in September may be higher than $75."

Is only true if you define "good odds" as being worse than 50% chance of occuring. It may happen, but the odds are against you.

It's still an interesting bet though.

April 19, 2006 10:37 PM  
Blogger Bret said...

Oops, I just noticed that CL SEP 2006 is over $75 so substitute "around" for "worse than" in my next to last sentence.

April 20, 2006 7:56 AM  

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