Gaming the Price of Oil

[Jan van Eck + 7,558]

Traders bring liquidity to a market.

Traders are speculators.

Start with these two propositions, which I consider to be both true and self-executing, and the rest follows inexorably from them.  To see how it works, take a somewhat simpler product version such as [USA} corn futures.  Corn grows throughout the US Midwest, and farmers grow quite a lot of it.  The land input for corn has some alternative uses, it can be seeded for soybeans, for example, sometimes wheat, even hay.  But typically, corn is a mono-culture crop grown on vast acreage in the Midwest.   But corn only is harvested in one crop at the end of summer.  The farmer is growing, and ultimately selling, his corn in competition with all the other corn growers out there, and at the beginning of the season he has no clear idea just how many are planting in corn  (and how many will opt for a substitute crop).  And he has no real control over the weather, or various blights, and so forth that would affect both his crop and the total harvest. But he needs to cover his production costs, and he is not in the speculation business, so he sells his future crop today at a locked-in price on a "contract" form into the Exchange, typically the Chicago Mercantile Exchange.  A Buyer makes an offer to buy that contract and pay for the Corn at that fixed price on a fixed date in the future.  Once the "contract" is set, then the farmer can go finance that contract,either on the exchange itself or with his local banker, as contracts are fungible and transferable Instruments.  So far, so good.

The Buyer of corn has the parallel requirements as the Seller, as he needs a fixed supply of corn delivered to his milling plant and needs to be assured of the cost of corn and its arrival on a date certain.  So he buys "contracts." to covert future deliveries.  So far, so good, everybody is covered, everybody has certainty, everybody is protected to both price and supply.  So you can see that, without the critical participation of the Traders, there would be no liquidity, no futures market, no "contracts," and the farmers and the millers would be exposed to future risks that could wipe them out.  Traders are essential to the market. 

Are traders inherently evil people? Nope. They are critical and essential to the construct of an orderly market. 

Now, these traders also engage in "side bets" or further trades amongst themselves in a vast card game, attempting to gain advantage and generating large swings in the pricing of those futures.  And when outsiders see that, they conclude that traders are attempting to manipulate the system.  And some are.  Specifically, recall that the Hunt Brothers, very rich Texans  (oil billionaires) attempted to "corner the market" in silver futures, and drove the price of silver up to $50 an ounce.  And they had an effective corner, until the directors of the Exchange changed the rules and effectively forced the Hunts to unload their holdings, at huge losses. 

On a governmental level, during the Khrushchev years, the Russians saw that their internal wheat harvest was going to be a failure, and needed huge volumes of wheat, so they had proxies go into the US Merc exchange and buy up wheat contracts.  They bought many more contracts, and low market prices, than they needed.  Then when the harvest came in, the Russians took physical delivery and started buying on the open from big elevator operators such as Cargill, the market saw it, and the price of contracts simply zoomed.  The Russians then liquidated their futures purchases at the inflated prices and ended up with all their physical wheat for free.  Neat, huh?  Don't ever say that the Communists don't learn from the Capitalists. 

So, to answer your implied question, can governments manipulate the future price of oil?   Sure they can. For one example, the US Govt can offer quantities of oil into the market from the Strategic Petroleum Reserve, the oil set aside in salt caverns in the South for the provision of fuel for the US Navy.  Nobody knows how much oil is actually there, because all caverns leak, and how much has leaked away is unknown.  Probably a lot more than anybody realizes, and the whole project is pure folly.  But the Traders "think" it is all there, and as long as they have the Belief, then for market purposes it really is in there.  So the announcement "The USA is going to sell off the oil reserve" will alter the markets in oil, and thus drive downward the price of foreign-purchased crude. 

If the US Congress passes a Budget Bill that sets aside the capital funds for 25 new coal-to-oil plants to be built on a crash program, each at 100,000 bbl/day, then effectively the oil futures market is deluged with an additional 2.5 million bbl/d of fresh light crude, and you can bet that will drive down the price of light oil in the futures markets. 

Do governments get into the manipulation of the futures markets?  Not much, because a major consumer such as the USA has a government that is obsessed with some impoverished migrants arriving from Guatemala instead of something mundane as the price of domestic gasoline, and it does not have the attention span nor the critical thinking to get involved in something so abstruse as the oil futures market. So, from the consumption end, I see little manipulation.  Nor can traders themselves manipulate the oil markets the way the Hunts did in silver, as the market is simply too vast.  

So that leaves the Russians and the Saudis as producers motivated to manipulate, and the Chinese as consumers motivated to manipulate, but these are nibbles at the margins.  Ultimately, yes markets "can" be manipulated,but today are "not really."  

If you don't want to lose your capital, then stay out of this market! 

 

[Ken Meyercord + 10]

Please note, everyone. I'm not talking about gaming the price by changing supply or demand (e.g., release from the SPR, Saudi production cuts, etc.), just pure price manipulation (e.g., having the Saudis, Vitol, et al. accept lower and lower bids). 

[Udara Hemachandra + 10]

Rapid reduction of Price especially Brent less than 63.50 what's really going on 

[Enthalpic + 1,496]

6 hours ago, Ken Meyercord said:

So, do you think the US government is currently gaming the price of oil?

The US is not nearly as powerful as Trump wants you to think.

Most of the world is laughing.

...and if the system is being "gamed" it's for Trumps private wealth.

Edited November 20, 2018 by Enthalpic

[Rodent + 1,424]

7 minutes ago, Udara Hemachandra said:

Rapid reduction of Price especially Brent less than 63.50 what's really going on 

Sentiment, fear, and greed. The usual. Specifically:

Inventory over the five-year average, bleak demand outlook, which has been revised downward time and time again in recent months. People disappointed by and large with how few barrels of oil were actually taken out of the mix with Iranian sanctions thanks to the waiver of eight countries. General gloom over the economic outlook as a whole.

Price starts to fall, people panic, price fall further. 

I think "gaming" is not likely in the sense that it is being discussed here. There are many market players that influence the price of oil with a tweet (Trump, Al-Falih, Putin, Novak) or through geopolitical pressures (Trump with Venezuela, Iran, Russia, China; Rhouhani with threats of military action in Hormuz) , through media by analysts and regulator bodies (Goldman, IEA). But little can be done to directly manipulate the price of oil singlehandedly.

[Billyjack + 58]

According to the Chicago Mercantile Exchange they trade 1.2 Million options and contracts daily. That equates to 1.2 billion paper barrels of oil per day versus 100 million barrels of liquid oil. As long as there is a surplus of liquid oil the speculators trading paper barrels set the oil price not Opec. There was only one short period, I think is was 1995 when demand for oil actually out stripped supply and the market may have actually represented supply/demand. The only other time the paper barrels may have represented the true market was in 1986 when oil crashed to $8/bbl when the worldwide consumption was 55 million and production capacity was 75 million barrels. The reality is that crude oil prices have always been manipulated. From Drake in 1859 until the first embargo in 1971 the refiners set the price artificially low while from 1971 until 1986 Opec set the price artificially high. The first OPEC to attempt to increase oil prices was the Texas Railroad commission in 1931 shutting in the East Texas Field when oil prices dropped to $.10 per barrel and instituted the proration schedule to create supply reduction and raise prices.

[Ken Meyercord + 10]

It's perhaps instructive to review oil prices since 1861: https://upload.wikimedia.org/wikipedia/commons/thumb/b/b0/Crude_oil_prices_since_1861.png/970px-Crude_oil_prices_since_1861.png . Notice how unchanging prices were from 1930 to 1970, compared to the volatility since. Have geopolitical events (Arab boycott - 1973, fall of the shah - 1979, Soviet intervention in Afghanistan - 1980-88, collapse of the Soviet Union - 1990-2000, Russian annexation of Crimea - 2014) played a determinant role?

[Manfred Kruger + 40]

In the short term the news cycle, speculative futures traders and geopolitics can have a large effect on oil prices, but in the medium to long term the supply/demand relationship always wins. Short term the market is a voting machine, long term it is a weighing machine. Volatility goes bezerk because the market is uncertain.

[Tom Kirkman + 8,860]

7 hours ago, Rodent said:

Sentiment, fear, and greed. The usual. Specifically:

Inventory over the five-year average, bleak demand outlook, which has been revised downward time and time again in recent months. People disappointed by and large with how few barrels of oil were actually taken out of the mix with Iranian sanctions thanks to the waiver of eight countries. General gloom over the economic outlook as a whole.

Price starts to fall, people panic, price fall further. 

I think "gaming" is not likely in the sense that it is being discussed here. There are many market players that influence the price of oil with a tweet (Trump, Al-Falih, Putin, Novak) or through geopolitical pressures (Trump with Venezuela, Iran, Russia, China; Rhouhani with threats of military action in Hormuz) , through media by analysts and regulator bodies (Goldman, IEA). But little can be done to directly manipulate the price of oil singlehandedly.

Rodent, that was an outstanding summary and analysis.  Hats off to you.

[Ken Meyercord + 10]

Here are some questions I don't know the answers to which I think would help answer my question:

(1) How much oil enters the spot market and how much is sold under contract? What's the split specifically for Saudi Arabia?

(2) How much of global trade is handled by Vitol? Are there other big players?

(3) The price we follow is, I believe, for 60-day futures. How much of the oil traded falls under this category? What are the other categories and how much is traded under them?

I hope you can help me in this foundational, quantitative approach. If you come up with some similar questions of your own, please share. 

[Ken Meyercord + 10]

I don't know whether to attribute your failure to respond to my last questions to a lack of knowledge or a lack of interest. In either case, I've done some research myself and find what I've learned very interesting, though it's dated and imprecise. Apparently, the volume of oil traded on the spot market is not public knowledge. An article in the Financial Times from 2013 ends with the lament "Unfortunately, thus far, no-one we’ve contacted has been able to give us any estimate about the real size of the spot pool at stands now." Platts, in a 2010 backgrounder, ventures a guess that 90-95% of all oil traded is sold under term contracts, leaving 5-10% for the spot/futures market. I also found that of the 150,000 or so trades made today (as listed on the OilPrice.com website), only 2607 (less than 2%) were for January delivery (the timeframe on which the "price of oil" is based). Obviously, the smaller the volume traded on the spot/future market, the easier it is to game, so I'm encouraged to think I may be on to something. Any contributions (keep it quantitative)? 

[Rodent + 1,424]

11 minutes ago, Ken Meyercord said:

I don't know whether to attribute your failure to respond to my last questions to a lack of knowledge or a lack of interest. In either case, I've done some research myself and find what I've learned very interesting, though it's dated and imprecise. Apparently, the volume of oil traded on the spot market is not public knowledge. An article in the Financial Times from 2013 ends with the lament "Unfortunately, thus far, no-one we’ve contacted has been able to give us any estimate about the real size of the spot pool at stands now." Platts, in a 2010 backgrounder, ventures a guess that 90-95% of all oil traded is sold under term contracts, leaving 5-10% for the spot/futures market. I also found that of the 150,000 or so trades made today (as listed on the OilPrice.com website), only 2607 (less than 2%) were for January delivery (the timeframe on which the "price of oil" is based). Obviously, the smaller the volume traded on the spot/future market, the easier it is to game, so I'm encouraged to think I may be on to something. Any contributions (keep it quantitative)? 

I'm unsure who this post is asking. Me? If so, definitely lack of knowledge, not lack of interest. 

to answer partly #3, Vitol handled 2.6 billion barrels in 2016  "equivalent to the daily oil consumption of Japan, France and the UK. https://www.ft.com/content/14a11fdc-10b4-11e7-a88c-50ba212dce4d

Glencore, Trafigura, and Gunvor are other big names. There are more. 

[Ken Meyercord + 10]

Interesting. Thanks. According to their website, Vitol trades or ships around 3.6 million barrels of crude oil every day (compare that to a total global trade in crude of about 44 mbd). I'm guessing most of that is through the spot market, but it would be nice to know for sure. If Vitol's trade in crude through the spot market is 2 mpd; and if 10% of global trade in crude is conducted through the spot market, i.e., about 4.4 mpd), Vitol would be responsible for half the market, more than enough to game the price.

Vitol, incidentally, has a nefarious history when it comes to Middle Eastern oil, having been charged with circumventing the UN oil-for-food program in Iraq, organizing a controversial sale of Libyan oil to Qatar, and trading with Iran in violation of EU sanctions. Nice guys.   

 

  

[specinho + 439]

Quote

I would appreciate hearing from those more knowledgeable in how oil is bought and sold than myself as to the plausibility of my thesis.

 Mind to let us know what subjects are you majoring and what is your thesis about? These things matter because we would like to guide you from the complicated ivory tower to a simpler tower with proper GPS (made in ___________. p/s: Place of production is important.) .......... 

[wimposak + 2]

THom is a climate change denier. Therefore everything he says needs to be taken with great skepticism and doubt. Do not let him change the real facts of the world to suit his small one behind his computer throne

[Tom Kirkman + 8,860]

9 hours ago, wimposak said:

THom is a climate change denier. Therefore everything he says needs to be taken with great skepticism and doubt. Do not let him change the real facts of the world to suit his small one behind his computer throne

Bwahahahahahahahahahahaha

(That's my climate skepticism evil overlord maniacal laughter)

[Marina Schwarz + 1,576]

What's your throne made of, O evil lord? Bones or bitumen? Or BOTH?

[Tom Kirkman + 8,860]

1 hour ago, Marina Schwarz said:

What's your throne made of, O evil lord? Bones or bitumen? Or BOTH?

My throne is made of leftover plastic straws.  2 triggers for the price of 1.

 

/edit, went image searching for a throne made out of plastic straws, but no luck.  Found this throne made out of melted plastic keyboards, though : )

[Marina Schwarz + 1,576]

Oh, that's cool! 

[Ken Meyercord + 10]

I did some further research, gathered my thoughts on the question whether the price of oil can be gamed, and put an essay out on my blog (kiaskblog.wordpress.com). I look forward to your comments. 

[Bobby P + 88]

Oil Price have a lot more to do than Geopolitics and very little to do with "Supply & Demand". Oil demand is trending up for the next decade. Don't fall for the crazy folks on here who think Oil will be replaced in 10 years. Not happening.