Oil Falls $2 As Saudis Report That Current Prices "Not Warranted"

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Oil has eased over $2so far today from Friday’s stunning $139 level. As told in Bloomberg, some see it as a reaction to the Saudi argument (consistent with the comments of oil industry executives) that current prices are not warranted by supply and demand, while others see it as a simple pullback:

“The increase in prices isn’t justified in terms of market fundamentals,” the Saudi government said today in a statement distributed by the Saudi Press Agency. Traders covered short positions, bets that prices will fall, because of the dollar’s drop and threats of supply disruptions.

“We are seeing increasing dialogue between producers and consumers, which is positive,” said Eric Wittenauer, an analyst at Wachovia Securities in St. Louis. “Thus far we’ve heard a lot but there’s not been much action. I think a lot of what we’re seeing today is just a reaction to the exaggerated gain on Friday as the dollar rebounds.”

But the Saudis aren’t alone in their view that the current prices are not warranted by supply and demand. From the Schork Report:

Energy prices are strong…as the bubble in the energy complex reached the point last week where it now has its own gravitational pull. Give it another week, and there will be small moons orbiting around 1 North End Avenue. Dutch Tulip mania 1630, South Sea bubble 1720s, DJIA 1920s, dot.coms 1990s and now you can add NYMEX?ICE energy 200s to the list of historic market mania. Here’s a little advice, if anyone tries to spin a rational explanation as to what transpired last Thursday and Friday in the energy complex, just tune them out, or better yet, punch them in the nose…at least that way, you might knock some sense into them, because THERE IS NO JUSTIFICATION for a $16.24 (13.3%) gain to end the week…..

There is now no apparent upward resistance because no one can afford the risk of selling the market. That is because, just like in all previous manias, the market is now taking long-term price forecasts, i.e., Goldman’s $200 call at some point in the next two years, and compressing that view into the spot market. In this vein, higher prices have become self-fulfilling prophecies. After all, Morgan Stanley tole us on Thursday that the price of crude may hit $150 by the ’04th of July holiday…so it must be true, right?

And note that the Saudis (and others) ought to know whether production is too high relative to demand because storage for crude is surprisingly limited. A reader provided this observation from Dan Dicker at TheStreet.com($):

“…in the world of energy trade, there is lack of fungibility that has always broken down thus: Electricity, non-storable — Natural gas, more storable — Crude oil, mostly storable

Although easiest of the three, oil storage has been historically inelastic, no matter the price… Over the last 4 years (and for most of my trading life) forward stocks have always hovered between 50 and 55 days — storage is expensive and limited, and just not efficacious.

This is why, at least in my view, that supply arguments are often overblown in oil pricing theory — supplies remain closely aligned to demand and rarely overrun — as OPEC members have time and again explained but are ignored. This is why President Bush can walk in to a meeting with Saudi ministers and be patted on the head like a silly schoolboy — “you don’t understand, Mr. President — we’ve got nowhere to SELL any more right now” and Bush will run home and talk about increasing domestic supply as if he hasn’t heard a thing”

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  1. Anonymous

    I read somewhere (sorry, no link – don’t remember where) that the action on Th/Fr was essentially a short squeeze – that the infamous speculators were all sure that oil was too high mid-May, with heavy short action starting the week of May 19 – remember that oil had a significant short term trend down from May 21 to June 4 – and that the beginning of upwards movement on Thurs lead to short covering in a market with less liquidity than the shorts would like

    Any thoughts?


  2. Anonymous

    A lot of this speculation is driven by places like Goldman that are pumping out new reports for the media every other week, where they hype and tout new thinking on higher prices, while they manipulate the market volatility. We have a paraplegic government that has an inability to do anything about everything and that just adds fuel to The Goldman manipulation and that is why it is collusion!

    Does anyone think McCain, Hillary or Obama has done one thing to help this economy in the last 8 years, besides take cash from lobby groups?

  3. Filmo

    Is it just me or is it every time I hear the House of Saud say that prices aren’t justified by demand, I think of the Bush Administrations ‘Strong Dollar Policy’.

    They’re both pretty much lip service. And ironically, related.

  4. Anonymous

    Yves – FT is running with the short covering story too:

    Speculators lost money in last week’s oil price jump as they were forced to cover previous bets on falling prices, data from the New York Mercantile Exchange show.



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