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Vet67to82 (< 20)

The US EIA, Crude supply, Shipping, Contango (3)



January 29, 2009 – Comments (7) | RELATED TICKERS: DXO.DL.DL2 , USO , XOM

With any product, but especially commodities,  you have  multiple scenarios;  as those scenarios play out you can make money, lose money, or go no where ... it's supply AND demand AND speculation.

 Possible scenarios (a few examples):

          Supply         Demand              futures go up  

 (1)   stable              stable             winter heating season

(2)     stable             stable              summer driving

(3)    falling               stable            OPEC cuts, conflicts

    Futures go up due to the "expections" of increased demand, reduced supply, or both.  The spot or cash market reflects what's right now.  The current scenario facts are: demand is falling AND OPEC is cutting supply.   Everyone is watching, but ignoring the OPEC cuts for right now as OPEC's cuts haven't yet caught with the drop in demand, hence the increase in supply,  and this isn't in the US EIA report, there are 33 ships storing 60-80 million bbls of crude, leased for multiple months, that if these "contango players" weren't "in the game" crude would be at $20/bbl.

    Unlike speculators, the "contango players" have a clear opportunity to take advantage of the difference between the cash price and the futures price. You buy the cash price, you sell the futures.  Your profit, less storage and insurance, is the difference.  If you're real good, you take more risk and roll the futures, month to month, against the stored crude and you can make even MORE money.  The speculators, know demand is falling, the speculators also know OPEC is cutting supply, what the speculators don't know, the "catch the  falling knife scenario", is when will the supply cuts catch up with the falling demand.  When you see global reductions in inventory, the OPEC cuts will have caught up, and  the speculators will jump in.  We'll all be in trouble again ... trapped in a viscious circle. 

   I have no problem with the  "contango players" they're actually doing all of us a favor by taking up some of the falling demand that could otherwise dropped crude to $20/ bbl.  The $20/bbl crude would have done big damage to our IRAs, 401 Ks, and the global economy would be horrendous possibly taking YEARS to recover.  Any thought of alternative, "green", good for the planet energy, and the companies in that industry, would be GONE. 

   I have a big problem with the speculators.  The speculators have no intention of taking possession of the commodity they're speculating in - they're in it for themselves - only themselves, and if the speculators drive crude back to  $140 - $150/bbl with $5 gallon gas the global economy will crash again.  This time the math says a second "global" crash will be UNRECOVERABLE.     

   The whole world needs to look at how speculators hurt us and put serious limits on speculation, BEFORE OPEC's cuts start working. 


7 Comments – Post Your Own

#1) On January 29, 2009 at 4:20 PM, DemonDoug (31.36) wrote:

It is still possible we could see crude in the 20s before all is said and done.

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#2) On January 29, 2009 at 4:34 PM, LowVCable (27.10) wrote:

Where are these ships docked? I think I'm gonna become a Pirate of Contango.

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#3) On January 29, 2009 at 5:19 PM, Vet67to82 (< 20) wrote:

 Statistics agrees with you, it is a scenario that MUST be considered, but the probabiIity of that outcome is small. So, I  disagree. The USA's gross domestic product is both internal and external from a broad range of industries and sectors.  OPEC countries GDP is crude.  If OPEC countries don't get the price of crude up, their economies, and their peoples, will suffer. I have 100% confidence that OPEC countries are going to do what's best for OPEC countries.  OPEC is cutting output in the hope the supply cuts will force inventory drawdowns. We just don't know when.   If OPEC weren't cutting supply, and the "contango players" weren't "in the game" absorbing excess supply then we's see a bigger drop in the futures prices, bringing the futures prices closer to the cash spot prices.   

   Remember ... the difference between the cash spot price of crude and the futures is the basis.  The futures price MUST converge with the spot price or you'd be manufacturing cash.  The futures ARE attempting to factor in the OPEC supply cuts "expection of reduced supply",and the  reason you're not seeing the futures drop is it's not a question of "if" it's a question of when.   Therefore, any drop in the cash spot price can only be temporary, and will only serve to widen the contango ... making it more attractive to lease a ship, fill it with crude (absorbing supply) and selling the futures.   


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#4) On January 29, 2009 at 7:08 PM, guiron (39.05) wrote:

The $20/bbl crude would have done big damage to our IRAs, 401 Ks, and the global economy would be horrendous possibly taking YEARS to recover.  Any thought of alternative, "green", good for the planet energy, and the companies in that industry, would be GONE.

I don't think the equation is that simple anymore. True, it's harder to develop renewable energy when oil is cheap, but it's hard to argue anymore that oil will be cheap for a long time, or that we can rely on building an economy on one commodity, the supply and price of which is inherently unstable and ultimately finite. Speculation or a fast growing economy could drive oil back up over $100, and that is just as ruinous. Wind, solar and geothermal don't really have these issues.

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#5) On January 29, 2009 at 11:51 PM, Vet67to82 (< 20) wrote:

  Excellent points guiron.  Unfortunately, wind, solar, and geothermal have other issues.  I majored in Electrical Engineering and Aeronautical Engineering at F.I.T,   Chemistry, physics, and math, lots and lots of math from algebra to Quantum Mechanics for the electrical engineering,  Weather and navigavion is no small part of the aeronautics engeering. ( I learned you don't want to fly into an occlusion, as you can get updrafts, downdrafts, rain, snow, sleet, hail, ... all at the same time which can knock your plane out of the sky. )

  Still, I like wind and solar. 

 I'm less a fan of geothermal.  Why?

I'm concerned over any release of heat from the earth's crust.  The earth's core is a swirling liquid mass  ... that swirling mass generates the magnetic field that protects this planet from the solar winds.   Look at Mars, I am convinced, when the explorations are complete, Nasa will determine that the core of Mars solidified, Mars lost it's magnetic field, and the solar winds RIPPED Mar's atmosphere away.  Magnetic field GOOD ... solidified core BAD.  No field ... NO atmosphere.  Heat moves from hot to cold ...  Look at your family, your friends, your co-workers ... do you really want ANYONE taking heat from the core?   

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#6) On January 30, 2009 at 9:00 AM, binve (< 20) wrote:

Vet, Great post! I really like how you laid out the possibilities. And that is definitely how it makes sense to invest. Nothing is given, nothing is for sure. It is all possibilites. You have to weight those possibilties with probabilitiy of occurence and impact if it does. I am definitely in the third camp. Demand for oil is very fickle and acts much faster than supply can react. Same thing when demand increases. Right now we have a temporary reservoir with all of the docked tankers and the big storage field at Cushing (and others). And it takes awhile for OPEC to ramp down production. But they have been, and I bet they are going to overshoot.

That is why I don't think prices will go much lower than here. Yes it is possible, and the probablity is not zero. But I would put it as a small one. I mean the average cost of EXTRACTION in the Middle East fields (lowest cost on the planet) is $20/bbl. (There are some cheaper individual fields, but that is the average). Why would OPEC pull oil out of the ground for no profit? They wouldn't. But also OPEC is not just the middle east. Low cost fields in Russia and Venezuela have about a $35 extraction cost. Venezuela in particular was banking on triple digit oil (increased revenue) when they redid all of their budgets the last few years. I don't think OPEC as a cartel will allow oil to fall much below this level.

But people bring up the fact that in the 90's oil was at $10-20/bbl. So why can't it go to that level? Because of how an oil field works. There was lots of very cheap / easy to extract oil in those fields 10-15 years ago. But 10-15 years of record breaking consumption by the world has forced new and deeper drilling sites even in the low cost fields. I doubt $20 oil is a realistic probability given the state of fields now.

Vet, I also wanted to say that I was impressed with your background! I am a Mechanical Engineer and I work in the Aerospace industry. It seems like we have a lot of commonality! That is great. I have another profile binv271828. Based on your comments about alternative energy (which I am also a huge fan of) I think you would like my blogs on the subject. My score is in the crapper because I made the mistake of betting at the peak of the commodities bubble. Oh well :). But you might be interested in reading my first two blogs: Alternative Energy and Solar Thermal. Please check them out and let me know what you think!

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#7) On January 30, 2009 at 10:58 PM, Mary953 (85.13) wrote:

Vet, why are you not on my favorites list yet?  Terrible oversight on my part - my apologies!  soon to be remedied. 

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