Oil: the Market is the Manipulation

This is a guest post by Chris Cook. Chris is Former Director of the International Petroleum Exchange, and is now a Strategic Market Consultant and commentator.

Clearly manipulation has been going on in the global market in oil – there's nothing new about that – it's what intermediaries who transact for profit do and have always done. Indeed, some market wags say that trading could be defined as “acceptable market manipulation”. But until the last few years what consenting adults were doing among themselves in the oil market didn't really affect the man in the street.

But things have changed. We have now reached the culmination of a process of financialisation of the oil market to a degree where the market has become entirely sociopathic. It now operates to the detriment of consumers and producers alike and for the benefit of the intermediaries who control the market.

How did we get here? Who's doing it? How are they doing it? And what can be done about it?

A Brief History

For a good many years a few major oil companies – the Seven Sisters – more or less tied up the oil market in long term contracts and there was little trading. They simply refined what they produced.

Through the Seventies and Eighties, after oil producer nations asserted themselves, trading in cargoes of physical oil and products began, and independent traders sprang up alongside the trading arms of some of the oil majors.

When I joined the International Petroleum Exchange as Head of Compliance and Market Regulation in 1990, the growing market in oil derivative contracts (futures and options contracts the purpose of which is to manage oil price risk) took off dramatically with the first Gulf War, and the IPE never looked back.

During my time at IPE major investment banks were completing a transformation into “Wall Street Refiners” who provided liquidity to the end user producers of oil and consumers of oil products who use derivative markets to “hedge” the risk that prices may fall, or rise, respectively. Indeed, I unwittingly facilitated their emergence by introducing new trading tools such as “Exchange of Futures for Swaps”, “Volatility Trades” and “Settlement Trades” which became hugely successful.

When I left IPE in 1996 the pieces on the present day oil market chessboard were pretty much set, and the game was commencing. It was already clear that the trend towards screen trading was unstoppable, despite the wishful thinking of the traders on IPE's open outcry trading floor. Moreover, market participation of investors through funds was already visible in embryonic form.

A Partnership made in Heaven?

There are probably few more influential people than Peter Sutherland. An Irishman with a high level legal and political background, he became a non-executive director of BP as early as 1990, and after a brief but successful period to 1995 as head of the World Trade Organisation he has been on the BP board ever since, from 1997 as chairman. He has also chaired Goldman Sachs International since 1995.

Lord Browne of Madingley was a career BP man who ascended to the top in 1995 and eventually fell from grace in May 2007 shortly before he was due to retire. He was on the Board of Goldman Sachs from May 1999 until May 2007.

BP have always been natural traders. Unlike Exxon, who are vertically integrated and produce & refine oil and distribute products, BP sell the oil they produce on the market, and buy the oil they refine. In the years since 1995, BP has made phenomenal profits by trading oil, and oil derivatives.

So have Goldman Sachs. You don't rise to the top in Goldman Sachs unless you are responsible for making a great deal of money: and their energy trading operations have made immense amounts.

The key player in Goldman Sachs is the current CEO Lloyd Blankfein, who rose to the top through Goldman's commodity trading arm J Aron, and indeed he started his career at J Aron before Goldman Sachs bought J Aron over 25 years ago. With his colleague Gary Cohn, Blankfein oversaw the key energy trading portfolio.

It appears clear that BP and Goldman Sachs have been working collaboratively – at least at a strategic level - for maybe 15 years now. Their trading strategy has evolved over time as the global market has developed and become ever more financialised. Moreover, they have been well placed to steer the development of the key global energy market trading platform, and the legal and regulatory framework within which it operates.

The ICE Forms

The founder entrepreneur behind the Intercontinental Exchange (ICE) is Jeffrey Sprecher - the current CEO - who saw early the potential of screen trading for energy. He acquired the US-based Continental Power Exchange in 1997 as awareness of the Internet began to spread, and everyone grabbed for market platform territory, with Enron Online leading the way.

But my understanding is that the Continental Power Exchange would in all likelihood have gone the way of most Internet start ups had Gary Cohn of Goldman Sachs and John Shapiro of Morgan Stanley not had dinner and agreed to set up an exchange. Their two firms put up the initial capital, and their stroke of genius was to offer to the other founder members - BP, Deutsche Bank, Shell, Soc Gen and Total - an inspired deal. In exchange for providing liquidity these traders would receive equity in the exchange, alongside Sprecher's Continental Power Exchange, which was the other founder.

At a stroke ICE was created and had transcended the Liquidity/Neutrality paradox of the Internet: if a platform is neutral, then it's not liquid: and if it's liquid, it's not neutral. By 2001 things were really cooking; other trader/shareholders had joined ICE (having had to buy in); but the key was to actually reach the thousands of participants out there who were the actual “end users” of the market.

An approach to acquire NYMEX was rejected, since NYMEX membership was dominated by independent “locals” who were and are in competition with the investment banks as financial intermediaries. However, in July 2001 ICE acquired for a pittance the International Petroleum Exchange – which was set up and owned by brokers - having made the IPE an offer they couldn't refuse ie “....accept this offer, or we take our business elsewhere”.

Since then, the ICE has extended beyond energy into other markets, but its core business remains energy.

The Brent Complex

The “Brent Complex” is aptly named, being an increasingly baroque collection of contracts relating to North Sea crude oil, originally based upon the Shell “Brent” quality crude oil contract which originated in the 1980s. It now consists of physical and forward BFOE (the Brent, Forties, Oseberg and Ekofisk fields) contracts in North Sea crude oil; and the key ICE Europe BFOE futures contract which is not a deliverable contract and is purely a financial bet based upon the price in the BFOE forward market.

There is also a whole plethora of other “OTC” contracts involving not only BFOE, but also a huge transatlantic “arbitrage” market between the BFOE contract and the US West Texas Intermediate contract originated by NYMEX, but cloned by ICE Europe.

North Sea crude oil production has been in secular decline for many years, and even though the North Sea crude oil benchmark contract was extended from the Brent quality to become BFOE, there are still only about 70 cargoes, each of 600,000 barrels, of North Sea oil which come out of the North Sea each month, worth at current prices about $2.5 billion. It is the price – as reported by Platts – of these cargoes which is the benchmark for global oil prices either directly (about 60%) or indirectly (through BFOE/WTI arbitrage) for most of the rest.

So it will be seen that traders of the scale of the ICE core membership wouldn't really have to put much money at risk by their standards in order to move or support the global market price via the BFOE market. Indeed the evolution of the Brent market has been a response to declining production and the fact that traders could not resist manipulating the market by buying up contracts and “squeezing” those who had sold oil they did not have. The fewer cargoes produced, the easier the underlying market is to manipulate.

But note that all of this action was going on among consenting adults, and was pretty much a zero sum game, which explains why the UK regulators responsible for it essentially ignored it, with a “light touch” regime.

Market Strategy

If you are an end user, then market volatility is your enemy – indeed, that is why end users began to use derivatives in the first place. But if you are a middleman, then volatility is your friend, and the only bad news is no news. Likewise, good access to market data is essential to end users – whereas privileged or “asymmetric” access to market data is beneficial for intermediaries.

The temptation is therefore always there for intermediaries to create artificial volatility through “hyping” or even creating news, and to move the market around. Whether or not BP and Goldman Sachs trading arm J Aron were involved in such collaborative behaviour during the late 90s is an interesting point, since they were uniquely well placed, but if they did, they wouldn't have been the only ones.

Certainly by 2000 manipulation of settlement prices – for the purpose of making profits “off exchange” - was rife on the IPE to the extent that the opportunity for profit to which it gave rise was affectionately known by IPE locals as “Grab a Grand”. When I discovered it by chance, and blew the whistle on it, my allegations were buried by the UK's Treasury, FSA and IPE between them, and so was I, personally and professionally.

Meanwhile, in 1999, Goldman Sachs managed to convince the US regulators, the CFTC, that they were entitled to the same regulatory “hedge” exemptions as those market participants who were genuinely hedging their physical requirements. This, combined with the collapse of Enron in December 2001, cleared the way for the complete takeover of the global energy marketplace which has followed in trading on (and off) the ICE platform, and prepared the ground for making money out of the growing constituency of financial investors.

Financial Investors

Through the1990s two new breeds of financial investors in the energy markets began to evolve
Firstly, the inaptly named hedge funds, which recruited, or were set up by, some of the top energy traders, who preferred to make money for themselves rather than their employer oil firms or investment banks. These traders began to take large bets in the oil and energy markets, using investors' money as risk capital, using both on and off exchange contracts, and as much “leverage” as they could command, either through derivatives, borrowing, or both.

This was good business for the “prime brokers” who acted as counter-parties to hedge funds and benefited both from commission and fee income, but also from privileged knowledge of order flow, superior knowledge of the physical market, and “front running” of customers wherever possible.

The lion's share of this prime brokerage business went to the ICE founders, Goldman Sachs and Morgan Stanley, who took different approaches to their necessary relationship with the physical market. Morgan Stanley acquired energy market infrastructure, particularly storage, whereas Goldman appear to have relied more upon their close relationship with BP. In the years from around 2002 until the Credit Crunch neutered the hedge funds, BP, Goldman and other prime brokers prospered mightily.

The advent of the Goldman Sachs Commodity Index (GSCI) fund in 1995 was one of the earliest examples of a fund investing in commodities for the long term as a “hedge against inflation”. To do so the fund ran increasingly significant positions in all commodity markets, but weighted towards energy. These positions were held over time, and had to be “rolled over” from month to month in the futures markets either directly, or through the intermediation of J Aron. This resulted in the phenomenon of what John Dizard documented as “Date Rape” and which I had observed – and pointed out to the FSA - several years earlier.

In the last few years, and particularly in the aftermath of the Credit Crunch, a massive wave of money has washed into a new breed of Exchange Traded Funds (ETFs) some of which exist solely to invest in commodity markets (ETCs). By mid 2008 it was estimated that some $260 billion of such money was invested in the energy markets. Compare that to the value of the oil actually coming out of the North Sea each month, at maybe $4 to $5 billion at most.

No one is in any doubt that this tidal wave of fund money caused a Bubble in oil prices culminating in a “spike” to $147.00 per barrel on 11 July 2008. But there appears to be a complete misconception – particularly in the US - as to how this Bubble occurred, and who was responsible. There is no consensus, and many conflicting theories, as to why it occurred and also why the oil price appears to be held at levels apparently unjustified by supply and demand.

How and Who

In Summer 2000 I was interviewed in London by a couple of staffers who were researching the Brent market on behalf of Senator Levin's Sub-Committee on Investigations, but the Senate then passed to the GOP in that year's election and a Minority Report was the result. This political attention to the Brent market pre-dated the assimilation of the global energy market by ICE, and almost the entire influx of speculative investor money into the market.

Current political attention is almost entirely focused on US futures markets, such as NYMEX and ICE, and a supposed “London Loophole” relating to trading on ICE Europe of WTI in particular. There is indeed a London Loophole, but it isn't where the politicians are looking.

The key point to understand is that for a deliverable futures contract like NYMEX's WTI, the futures price converges on the physical price, and not the other way around. What matters in terms of manipulation is the exercise of control over physical oil in tank or in transit, in order to be in position for delivery in accordance with exchange rules.

For six years I oversaw the trading and delivery cycle of the IPE's deliverable Gas Oil contract and can categorically say that neither IPE nor the London Clearing House saw any reason to even consider position limits other than in the month of delivery itself. Even were the Clearing members to be negligent or mad, IPE took care to ensure that any of their clients who still had contracts open were in a position to make or take delivery in accordance with the rules. I knew that all of the action in what was occasionally Europe's biggest game of “chicken” was taking place in the physical market between the consenting adults whom I had on my speed dial.

I have no doubt that the manipulation of global energy prices which is taking place does so not on exchanges, but in trading within the Brent Complex where the key transactions take place on the telephone or – in a modern twist – in the instant messaging chat-rooms to which most of the negotiations have migrated.

Some of the resulting contracts are registered and cleared by ICE Europe and elsewhere, but most remain open bilaterally between seller and buyer. So most of the huge volume of transactions which take place in ICE Europe and NYMEX are in fact “hedges” of the risks taken on by financial intermediaries in these opaque off-exchange transactions. The futures markets are the tail, not the dog: the problem is that the tail can be seen, but the dog is invisible.

BP and Goldman Sachs are, as ever, the best placed, since Goldman has acquired strategic pipeline and other assets in the US which give them an information advantage over other players in the US oil and gas world. BP for their part may have disposed of their North Sea oil interests but they made sure they kept ownership of pipeline and other infrastructure.

I surmise therefore, that the rest of the financial intermediaries who have been queuing up to join the party, dance profitably to BP and Goldman's tune, and carry out similar transactions as counter-parties to producers and funds based upon the same market logic.

Which brings us to why the market is doing what it is doing. What actually is the logic?

Yield and Profit

At this point I must give a risk disclosure statement. What follows is purely speculation, and based in part upon some unconventional thinking I have come across, and find attractive.

From the perspective of a producer high prices are desirable, and they are hardly likely to complain about market prices being manipulated upwards.

Now the conventional assumption is that the ruling factor for producers in market decision-making is the marginal cost of production ie the cost of producing an additional barrel of oil, or tonne of iron ore. But if that were the case, why did all the commodity markets spike at the same time, and indeed, why are they doing so again at the moment, when there have been no obvious cost changes in any of them?

Clearly some other factors are at work here.

Firstly, the profit motive, and secondly, the price of money over time, or “yield curve”.

Unlike for investors, the cost of storage for producers is virtually zero. Because they are in business to maximise profits they will therefore tend to keep their oil in the ground if it is more profitable over time to do so than to sell it and hold the proceeds in financial assets.

As Shalom Hamou puts it:

Financial decisions are always about choices:

The shape of the yield curve is paramount in any financial decision, rather than long-term assets.

Miners and drillers who contrary to the bankers have no vested interest in buying long-term assets, prefer short-term assets to long term assets when the yield-curve is inverted.

If you consider the minerals as short-term assets, you come to the conclusion that confronted with an inverted yield curve, would prefer to hold minerals in the ground, their most profitable short-term assets. It creates a rise in the price of minerals which comforts them in their behaviour.

Hence, miners would keep a higher proportion of their minerals in the ground where storage is infinite and almost free to them (for a miner, the best short-term asset is minerals in the ground, so selling them in order to buy short-term financial assets is simply not relevant), rather than sell them and invest the proceeds in long-term assets. Because of their self-restraint on output, hence on supply, they generate as the commodity price rises, which is compounded with the increase in their unrealized revenues.

That behaviour need not be conscious but is probably the result of the propagation of arbitrages through the different financial markets, among them the cash and derivative markets on fixed income securities and the cash and futures markets for minerals.

His point is, as I read him, that it is the shape of the yield curve which tends to drive commodity prices. And of course it is the “propagation of arbitrages” which is the business of the BPs and Goldmans of this world.

Whether and to what extent the yield curve has affected commodity pricing are interesting questions beyond my experience and competence, but the argument is an interesting one.

Returning to market manipulation, market observers with long memories will recall that a cartel of tin producers was able for years to hold the tin price at an artificially high level by buying in production into a pool. Eventually, however, the high price stimulated so much new production that the cartel was unable to support the price and the market collapsed overnight from $800 per tonne to $400 per tonne.

More recently, Sumitomo's copper trader Yasuo Hamanaka was able to manipulate the copper market for some 10 years with the complicity of several investment banks and brokers who took part in a programme of lending and borrowing copper through forward sales on the London Metal Exchange. Mike Riess's brilliant presentation in 2003 is a fascinating study of modern market manipulation.

It appears to me that what has been occurring in the oil market may have been that – through the intermediation of the likes of J Aron in the Brent complex – long term funds have been lending money to producers – effectively interest-free - and in return the producers have been lending oil to the funds. This works well for as long as funds flow into the market, or do not withdraw in quantity, but once funds withdraw money from the market, there is a sudden collapse in price.

A combination of market hype, the opacity of the Brent Complex and the relatively small scale of trading of the benchmark BFOE crude oil contract enabled the long run up in prices, and several observers believe that the dramatic spike to $147.00 per barrel was the specific outcome of the collapse of SemGroup which that company's management subsequently blamed mainly on Goldman Sachs.

To quote Riess:

Before the ‘80’s, there were just us traders. Rogue traders arrived on the scene with the large institutional participants, both private and public. Today’s companies and government marketing boards are large enough for senior management to distance itself from controversy, including market manipulation.

In a competitive, amoral environment, middle managers in these mega-organizations have the authority to hijack an institution’s reputation and the financial clout to manipulate the market—and they do. As long as they succeed, they enjoy promotions and perks and, sometimes, the fruits of embezzlement. If the manipulation unravels, the company denies any knowledge and hangs the rogue out to dry. We’ve seen this over and over again, most recently with D’Avila and Codelco, Hamanaka and Sumitomo, Leeson and Barings and Tsuda and Daiwa Bank.

The manipulation in the oil market is taking place at a different “meta” level to the Leesons and Hamanakas. The Goldman Sachs and J P Morgan Chase's of this world do not break rules: if rules are inconvenient to their purpose they have them changed.

The Market is the Manipulation.

What is to be Done?

The dysfunctional nature and inherent instability of today's market is a combination of the profit motive of trading intermediaries, and the “deficit-based” nature of money created as interest-bearing credit.

I believe that the solution lies in the evolution of a new – dis-intermediated – market architecture and a simple but radical approach to the financialisation of oil and energy through what I call “unitisation”. This is the simple expedient of the creation and issue by producers of Units redeemable in energy, whether carbon-based or otherwise.

The evolution to such an architecture will in my view be a consequence of the direct instantaneous connections of the Internet. But that emergence is another story.

Thanks, Chris, for your thoughts!

One thing that strikes me about the oil price run-up is that it took place over a very long period (about 6 years), during which time the supply of oil got tighter and tighter. If there was a distortion, it seems like at most it was during the post January 1, 2008, period. This is a simplified graph I used in another post:

World crude and condensate oil production, based on **EIA crude and condensate oil production data and ***EIA West Texas Intermediate spot prices. *2009 oil production is average January - April; prices are average January - June

Hi Gail

When it comes to discussion of the market price, I'm just lighting the blue touch-paper and standing well back!

My interest and expertise lies in market and product structure....

I shall contact Shalom Hamou, however, and hope he may join in the debate.

This is one of the worst posts ever. It is wrong in so many ways.

A stream of irrelevant facts and basic market term name dropping to attempt making the writer seem smart followed by allegations against "the market" and specific named market participants without any evidence other than batty hearsay conspiracy theories.

The writer's "credibility" is that he worked on an oil exchange for 6 years, 15 years ago. 15 years ago?

This site should be above giving airtime to conspiracy theories from such people.

Good evening, Drake.

I welcome constructive comments, but sadly yours is not one of them.

Please point out my mistakes. And what exactly is the conspiracy I am suggesting?

Every paragraph has mistakes and most of your points extrapolate hearsay and rumor. What conspiracy theory?: Relying on Goldman-links has become the most common cheap tactic for anyone trying to win populist support for a shallow argument.

Later you go on to say:

No one is in any doubt that this tidal wave of fund money caused a Bubble in oil prices culminating in a “spike” to $147.00 per barrel on 11 July 2008. But there appears to be a complete misconception – particularly in the US - as to how this Bubble occurred, and who was responsible. There is no consensus, and many conflicting theories, as to why it occurred and also why the oil price appears to be held at levels apparently unjustified by supply and demand.

This directly conflicts with a post on this site just two days ago which showed the price of oil had to rise to $147 because that was where marginal supply and demand met in the face of ever advancing demand and supply which could not keep pace.

Perhaps you, or the poster you refer to, could point out to me the dramatic changes in physical supply and use of West Texas Intermediate which justified the WTI price being at $147 per barrel on July 8 2008 and under $40 in December?

The management of Semgroup considers that they were a victim of a trading coup, and if that were so, I think you will concede that it had nothing whatever to do with physical market supply and demand in the "real world".

It appears to me that the basis of your antagonism is that you believe that I am some sort of "denialist". Far from it: I believe that Peak Oil is a self evident reality. But it is a reality which we cannot manage with the totally dysfunctional market mechanism we have. If you cast your mind back to the Seven Sisters Big Oil cartel, we didn't see volatility of this order. In fact, we saw virtually no volatility at all. But we did see producer nations receiving virtually none of the fruits of their production.

IMHO global producers, and global consumers should sit down at a Bretton Woods II and agree a fair market mechanism for producing, distributing and above all saving and making best use of a scarce resource while we have it, and THEN investing the proceeds in production of renewable energy and inenergy savings. I have long advocated an "International Energy Clearing Union" and "unitisation" of fuel as mechanisms. IMHO we would also need a formula eg The Wade Formula or mechanism eg a charge on positive and negative energy trade balances for allocating and investing energy.

In such a model the current value-extracting intermediaries will become value-sharing service providers, or they will go out of business. In fact we are already seeing this happen in oil and gas production as sovereign nations take back or retain ownership of their resources and engage Big Oil as contractors.

I have a fascinated admiration for Goldman Sachs as an organisation. I have known and had dealings with many of their people over the years, and have great respect for their ability and work ethic.

Similarly, I think a submarine is a beautiful piece of engineering: but a submarine has the malign purpose of sinking ships and launching nuclear missiles.

The problem with Goldman Sachs - at least in the last 25 years - is that their function as a financial service provider partnership has declined and they have evolved into a transaction-oriented (rather than relationship-oriented) joint stock company with the specific - and IMHO malign - purpose of extracting profit for the benefit of rentier shareholders, as a trading intermediary.

In the same way that submarines do not organise the convoys we should not allow trading intermediaries to control the market mechanism.

IMO, average annual oil prices are a better indication of what producers actually receive and what consumers actually pay, and I think that the recent bull market in oil prices started in 1999, after hitting a recent annual low of $14 in 1998:

The overall average annual rate of increase in oil prices was about +20%/year from 1998 to 2008, with 2000 being the fastest year over year rate of increase, not 2008.

And note that the one annual decline in the 10 year 1998-2008 time frame was 2001, following the fastest year over year rate of increase, in 2000.

The second year over year decline in the 11 year 1998-2009 time frame will be in 2009, following the second fastest year over year rate of increase, in 2008.

And Henry Groppe's view, from the most recent ASPO-USA Peak Oil Review:


An Alternative View

(emphasis added)

In contrast with the conflicting and shifting opinions about the immediate prospects for oil prices, Henry Groppe, 83, who has been following the oil markets for over 50 years, firmly believes that oil prices are climbing, and will continue to climb, because of fundamentals. While speculators may force higher peaks and lower troughs, only fundamentals can set the basic trend in motion.

Groppe believes that actual imports have been running 1.25 to 2 million b/d less than reported in official export statistics and that weekly inventory numbers are unreliable. He further believes that worldwide demand is stronger than generally held and that prices will move towards $100 a barrel later this year. Prices above $90 a barrel would take such a heavy toll on the world’s economy that OPEC would be forced to drive down prices by increasing production.

Should Groppe’s analysis prove correct and the world oil markets are in reality much tighter than official reporting holds, then there is clearly far more serious economic trouble just ahead.

I agree with Groppe, I don't think inventory figures are any more accurate than Chinese GDP numbers. The of a piece with Dennis Kneale's and the stock exchanges' attempts to hype the so- called 'recovery'. Any trader in any market has to be aware of the energy cost constraint, even if it is unmentionable.

It's hard to explain away the effect on the world's economies of a 500% rise in price in the one elememt besides credit that is essential to commercial enterprise. Ironically, credit isn't cheap, either.

That is, if you can get it ...

CNN Money sez:

$70 oil menaces budding recovery

As oil prices rise, some say already weak consumer spending is in danger of taking an even harder hit.
Steve Hargreaves, CNNMoney.com staff writer
Last Updated: June 10, 2009: 7:44 AM ET

NEW YORK (CNNMoney.com) -- Two weeks change a lot in the oil markets.

At the end of May CNNMoney.com ran a story asking if $60 oil will kill any economic recovery. 'No," most analysts said - consumers could shoulder $60 crude, and analysts didn't see prices going much higher.

Now oil is touching $70 a barrel. Goldman Sachs recently said it sees crude at $85 by the year's end. With the economy still on life support, oil is drifting dangerously close to being the wet blanket at the recovery's party.

Many say consumer spending - which accounts for over two thirds of the nation's economic activity - takes a big hit when crude hits $100 and gas $3 a gallon. Some say it's more like $125 crude and $4 gas. Others say that during a recession $80 is the breaking point.

You know it's funny, ask any Peak Oil expert and they will say; "after the peak prices will climb ..." Prices have climbed already! Does this mean that the price rise over the past ten years doesn't count? That a bell will ring and THEN prices will REALLY go up?

Anyway, don't look now but Peak Natural Gas is taking place right now.


You say:

back to the Seven Sisters Big Oil cartel, we didn't see volatility of this order.

This was because oil supply was plentiful. Now it is not and volatility has increased.

In your reply you also refer to a particular company saying that their management blamed a "trading coup" for oil price movements. A lot of companies (and you) are confused as to why oil prices are now so volatile. They and you are lashing out with conspiracy theories. Maybe they and you should read TOD and the post from two days ago which explains the price changes.

I read it, and there is fascinating discussion.

Oil prices are IMHO volatile because of:

(a) gearing aka leverage; and

(b) the fact that volatility is in the interests of intermediaries, who own and control the market platform.

A disintermediated market, without gearing, would resolve most, but never all, of the volatility.

The outlook is crystal clear: we get real structural undersupply of oil markets, like in the period through 2005-2008, cuminating in 147-dollar oil. This time around, Peak Oil oblige, there is no respite unless we have permanent economic recession trimming global demand at least as fast as depletion trims supply or "offer".

My argument for a long time now, aired at a couple of ASPO conferences (rare occasions when I'm allowed out of my "unemployable" box), is a Global Energy Transition Program, with bespoke institutions, with clout, like an International Energy Fund modeled on the IMF
There would also be a beefed up IEA, with permanent oil exporter and oil importer country representation, that sets supplies and prices on a 90-day forward basis. With a little residual market arbitrage to keep Goldman Sachs and similar parasites from getting too apoplectic !

The Energy Transition Fund, focusing worldwide renewable energy and energy saving goals, would be funded by an Energy Levy on the prices set and the oil supplied through the new international Oil & Gas Authority.

I think that the key is for producers and consumers to finance their necessary transitional investments through the "unitisation" of energy. ie the issue of Units redeemable in energy.

Rather than looking at oil, we should look at carbon fuel use and gradually introduce a levy on that, compensating consumers with Units redeemable in energy use. The resulting "Carbon Pool" fund then finances the necessary investment - through loans denominated in energy - in renewable energy and the cheapest energy of all, energy savings or NegaWatts.

I also think that it is global agreements which are necessary, rather than global institutions, which invariably take on a life of their own.

Price is not a linear function of supply and demand. As demand exceeds supply the price moves exponentially and not in a linear function as many seem to suggest.


Relying on Goldman-links has become the most common cheap tactic for anyone trying to win populist support for a shallow argument.

Anything negative anyone says about Goldman Sachs would appear to be justified, judging by today's Kunstler blog.

From the Kunstler blog linked by Mamba:

Readers of this blog know I'm allergic to conspiracy theories. But surveying the scene out there, it is hard to not conclude that Goldman Sachs has become the "front-runner" of a criminal syndicate defrauding US taxpayers.

Yeah, what he said! Problem is, it's NOT JUST the US taxpayer, but taxpayers in every nation. But Canadians for example, can't assemble the clout it takes to discipline it, all we can do is get ever more angry at the stupid system in the USA which allows it.

BTW, in all your discussions of changes in oil prices above, I see no discussion of the dramatically falling $US, eg. $CDN gone from $0.62 to $0.92 since 2000.

Bernanke -
"The silver lining in this whole thing is that people are starting to save more, since they saw what happened with 401(k) investments," Bernanke said. "People are adopting good habits, so not only will we will be back on track, but the economy will be stronger than it had been before this started."

How will the economy be "stronger" with less oil? Economists are still stuck on the infinite growth model.

When government statistics report that there is increased savings, what is meant, is that money is going to pay down debts. The money is not going to a savings account.

It's saving by definition. Regardles of what you do with the money (put in the saving account or pay down your debt). You end with bigger cash balance. Saving is defined as having surplus of income over consumption.


I won't pretend to understand much of that, I'd need a stiff drink and lots of time to pull it apart into english. Mind you it paints the traders and companies as amoral crooks, so its probably accurate...

My question is slightly different. What reaction would you expect to see from the market to the realisation of falling supply? From what I can gather the yield curve is key to your hypothesis, but I can't work out the implications for 'playing the game' - particular for a BP or Goldman Sachs.

Not my hypothesis actually, garyp. Just one that interests me, and as I said that area is not my forte.

Common sense tells me that the physical market price is a function of supply and demand for physical oil and products.

re Goldman and BP, don't forget that they are middlemen trying to maximise profit, and all of their actions must be viewed through that lens.

Common sense tells me that the physical market price is a function of supply and demand for physical oil and products.

Following is a plot of US average annual oil prices versus combined total net oil exports from the top five net oil exporters, which account for about half of total world net oil exports. Sam Foucher's best case is that the top five will be down to 15 mbpd by 2018.

This needs further study on my part as well. In any event, it may be fruitless to attempt to outsmart the manipulators who will always find a way to game the system. Let us accept that the oil market will remain volatile and mitigate this volatility by minimizing our dependence. How does the small player speculate in a rigged environment?

How does the small player speculate in a rigged environment?

Same way as you play roulette. You make a bet.

Provided you stay small and keep it short term you should have a reasonable chance. For them you're just little people, and you are up against the visible house odds. Quite a few zeroes on this wheel though.

But if you play big, then like with Robert Redford gambling his stash at the beginning of "The Sting", they'll press the button under the wheel and you lose everything you have.

Just ask Semgroup

Chris, that's actually damn good advice. The other important point is to set your goals clearly and stick to them. If your trying to get rich fast and move up the food chain then of course your going to have to take far bigger chances such as leveraging, money pooling of various types, etc.

However if your goal i self protection, then you would be "hedging against future use", i.e., you calculate the amount of energy you will use for X set of years and purchase futures at Y price to assure that you can easily predict your cost of energy into the future for set time (potentially for the next decade or so at minimum, with creativity, potentially longer). Despite what some may think this is not a game played by only those paranoid about "peak" or supply disruptions, but hedging for future use has been used by airlines, industrial processing firms, etc.)

Even in times of volitility and or a rigged market, hedging against future use is very workable, in fact is more needed in periods such as those being discussed.

In the price run up to $147 I often said (here on TOD and to personal friends and associates) that I could live with an oil price of $100 or thereabouts for the rest of natural life and if I felt I could lock it in at any price below that I would be content and able to plan (note, this would be the energy for use, NOT to resell or for speculation, two completely different ways of thinking of "investing") For me the above is even more true now than it was then. As a brief aside, this creates a different problem: On a financial basis, I have absolutely no FINANCIAL incentive to reduce energy consumption as long as oil stays below $100 and only marginal incentive even above that price (marginally). I know many associates who are in a similiar position. If these people reduce energy consumption they must be motivated by patriotic, philosophical or aesthetic concerns,or fear of a full energy disruption (no oil available at any price), not money.


In the price run up to $147 I often said (here on TOD and to personal friends and associates) that I could live with an oil price of $100 or thereabouts for the rest of natural life and if I felt I could lock it in at any price below that I would be content and able to plan

But could you afford to pay for all the oil you would use in the future, now.
Maybe an airline wants to hedge against future price increases in oil (proxy for Jet fuel) over the next 5 years. The problem is they cannot pay for all the fuel that they will use in the next 5 years now. With futures, they don't have to buy it all now, they buy 1000 barrel contracts for the price of one barrel (is this correct?).

Now if Goldmann and BP start bring the price of oil down, for every dollar drop on a barrel it costs the airline $1000 for each contract they own. If the price keeps droping it could cost the airline many times what they initially put up as a hedge against increasing prices.

Of course the airline could drop out of the futures anytime they want to save losing money, but guess what? Once they drop out the price will start to climb.

If the market is rigged you can only hedge if you can order what you require in the future and pay for all of it now.

Ah, there's the rub, how much insurance can you afford? In a world where the money may be able to make you more money doing something otehr than buying insurance (which is what hedging against future oil price is) how much are you willing to afford?

An airline cannot know for sure how much oil it will need in the next 10 years...with a booming tourist and business market, a lot, with a declining economy, not nearly as much) all they can do is make projections. If the boom doesn't occur, they could be hedged for far more oil than they are using (the recent collapse caught many people out)...there is no risk free strategy, what we are looking for is simply to be in better shape than other folks (economics is after a competitive game), the old rule still applies, "we don't have to be perfect, just better than everybody else."


I could live with an oil price of $100 or thereabouts for the rest of natural life

Agreed, and so could I, likely. But Chris Cooks point is how unhappy are you that that number is $100 rather than eg. $70 solely so Goldman brokers and shareholders can afford to operate their 500 foot yachts?

Excellent explaination and I suspect a little over most folks heads. I know I for one was streatcing my brain a bit and I have a good understanding of the finance piece.

I wanted to offer a simple solution for the ultimate 'end user', the consumer. While these giants can control and corner markets by leveraging their might we can leverage even more simply by leveraging our numbers. By choosing to live a more self sufficient lifestyle, using less of their products, we free ourselves and remove the supports of their power structure, albeit by a tiny amount.

I suspect we will need to do this eventually anyway since the end of their money game will probably end suddenly when the wells dry up.

Thanks. There's no easy way to tell it, regrettably.

I suspect we will need to do this eventually anyway since the end of their money game will probably end suddenly when the wells dry up.

It's ending in fact because the money has dried up.....

A very, very interesting collection of thoughts.
The hypothesis that volatility is good for middlemen and bad for consumers can probably extended to "volatility is bad for producers and consumers, and good for the middlemen". That ties right into the generally accepted notion that high volatility puts a damper on production, or at least on the expansion thereof.
From the general tone of your article the question of causation seems to be answered by the notion that the middlemen cause volatility, not that high volatility attracts middlemen. Is that correct?

Spot on, WP.

There would be volatility without middlemen - but I suspect nowhere near as much, particularly if the market architecture and transaction mechanism were properly designed.

Thanks, Chris, great view of how the trading markets work ... or don't. There are a lot of moving targets. You are beating up on Goldman- Sachs again, aren't you?

I have no doubt that the manipulation of global energy prices which is taking place does so not on exchanges, but in trading within the Brent Complex where the key transactions take place on the telephone or – in a modern twist – in the instant messaging chat-rooms to which most of the negotiations have migrated.

I always wondered why people believed that the trading ended when the oil was 'delivered'. A problem is the decline of domestic production resulting in the increasing disconnect between producers and users. The middlemen bet the users can pay a lot more than what the producers believe - and bet; when the producers' prices catch up the middlemen have already booked a nice profit and racheted the price up further. Wash, rinse and repeat.

All done in nanoseconds, I understand ...

Interestingly, this is from Jim Willie. He is a gold marketer so ignore the usual paranoid ranting in his article but this should resonate:

More complicated trade platforms are being constructed right now, behind the scenes, with little or no publicity or exposure. The primary parties involved are Germany, Russia, China, and Brazil. They will integrate buyer and seller with attendant systems. One consultant working directly on such systems wrote, “Once the meltdown occurs, the evolving system will not require reserve currencies any longer, since 95% of all transactions will be barter and/or sophisticated counter trade via a new exchange platform that is being designed and will be up an running in early 2010. This new exchange will pretty much eliminate banks from being the bottleneck in conducting trade locally, regionally, nationally, and internationally. Welcome to a very different new world order.”

The process will take time, but seems to be born soon from crisis bathwater. It is not installing new devices for speculation, but actual construction of platforms in progress unbeknownst to US media networks. The new system will enable trade from region to region in time, designed to cut out entirely the profligate ‘deadbeat’ nations that might include the United States.

I disagree vehemently with Willie about currencies. His self- contradictory argument is the international financial crisis is ended and the appetite for risk is back along with a desire to hold more 'speculative' currencies - while claiming the financial crisis is going to take a more destructive turn - and pick on the proven safe haven currency!

I'll believe it when I see it.

This in no way negates the utility of non- intermediated trade. It's a good idea and clearly the wave of the future. A big problem in the US is the government is in partnership directly or indirectly with most producers of anything - the rules and whatnot make middlemen indispensible.

Warren Pollock makes the point that by simply being alive in America, you are probably breaking the law:

You are beating up on Goldman Sachs again, aren't you?

Now I don't know how you got that idea, Steve.

“Once the meltdown occurs, the evolving system will not require reserve currencies any longer, since 95% of all transactions will be barter and/or sophisticated counter trade via a new exchange platform that is being designed and will be up an running in early 2010. This new exchange will pretty much eliminate banks from being the bottleneck in conducting trade locally, regionally, nationally, and internationally. Welcome to a very different new world order.”

Now, there is actually a lot of meat in that statement.

Wherever you have a barter system with inbuilt credit ie "time to pay" then the result is a monetary system, requiring a value standard or unit of measure for pricing, and a framework of trust in respect of debit balances.

I set out in Norway recently my view as to the way that the global financial system could look in a decentralised economy of Peer to Peer Finance

But to Mr Willie I would say that my view on gold is that you can't live on it, heat your house with it, or type emails with it. In my view what makes currencies more generally acceptable in exchange is the ability to redeem them for something useful.

Gold doesn't cut it for me the way that location, energy and knowledge do.

The Norway link took me to the infamous PC Virus link.

You mean slideshare is infected in some way?


Googled it and quite a few people are reporting it. Slideshare are onto it but have yet to find the problem.

The above URL seems to be indicating, as per the Geek Squad( a bunch of idiots) that the users PC is infected.

I do not believe that to be true.

Since it is site dependent it could be the DNS Hijack bug. Or else you own DNS cache has been hit.

Either way I do not think the PC is the culprit in terms of a virus or trojan.

Every time I go to the Ha Aretz website this happens.Why? Because Islamic terrorists wantabes are to blame. Hamas underlings,whatever.

Now I could be wrong since some of the latest virii tend to inhabit the browsers memory space and are not detected by Virus Scanners.

I will withhold judgement meanwhile but I am immediately going to scan my PC. Yet I do note that it occurs on more than one of my PCs. And one of them has not been on the internet of late, yet threw up the same indications.


PS.You might want to check your HOSTS file. Here is what a good one will look like:

# Copyright (c) 1993-1999 Microsoft Corp.
# This is a sample HOSTS file used by Microsoft TCP/IP for Windows.
# This file contains the mappings of IP addresses to host names. Each
# entry should be kept on an individual line. The IP address should
# be placed in the first column followed by the corresponding host name.
# The IP address and the host name should be separated by at least one
# space.
# Additionally, comments (such as these) may be inserted on individual
# lines or following the machine name denoted by a '#' symbol.
# For example:
# rhino.acme.com # source server
# x.acme.com # x client host localhost www.google-analytics.com # stop google from snooping,,01/06/09

The DNS hijack as I recall has not been thoroughly resolved as yet.
But I haven't checked recently.

If a providers DNS has been hijacked then the URL you enter will take you instead to the hijackers desired website...like a fake online banking website.

I have been a Mac user for a long time.

After working all weekend we have identified the cause. It was an advertiser who was posing as a legitimate ad agency. We turned off all advertising on the site and then turned them back on one by one until we could pinpoint the problem.

The problem has been fixed ... and we are taking steps to make sure that it's impossible for this to happen again.

Please accept my apologies for this, and let me know if you see (or hear about) anything remotely suspicious.

I've clicked on my links and I don't have the problem any more. They seem to have sorted it out, as they say above.

But to Mr Willie I would say that my view on gold is that you can't live on it, heat your house with it, or type emails with it. In my view what makes currencies more generally acceptable in exchange is the ability to redeem them for something useful.

Gold doesn't cut it for me the way that location, energy and knowledge do.

People ask me what the best thing to invest in and I tell them, "yourself'. If you learn something every day it's more useful than money.

I like the p2p finance idea, it is flexible which is a real benefit and it takes the credit/money creation away from banks and distributes it downstream. I always wondered why individuals couldn't deposit the same one- hundred dollars into ten different bank accounts ...

I think one of the things that is going to have to be dealt with by any P2P approach is the fact that declining circumstances will reduce or eliminate trust. Many firms that deal P2P will fail and their replacements will likely be more shark- like. There will be more fraud. Compliance will disappear. P2P infers a large scale, but large makes more susceptible to a black swan event.

Even though a distributed system is robust under ordinary circumstances, it also distributes the systemic risks.

Anyway, the bottom line is any P2P needs to have a mechanism to manage risks effectively in a background chaos environement. Previously there were large private trading firms that could 'purchase' risk on the lines of a Lloyds. Maybe a consortium of individuals might be willing to do something similar on trial then scale up. Or some kind of feedback system and risk- grading.

Maybe just letting people have the right to open ten accounts with one deposit would be enough; it would make bank liabilities true liabilities rather than capital. It would make people rich (and allow them interest income) and require them to save (they could spend the interest ... ???) The banks would perform the mediation function and a percentage of operating could insure risks. Hmmm ... banks wouldn't earn interest, they would collect some fees from the risk intervention and could also advise on risk remediation.

- keep fiat system and dollars as 'markers'

- drop fractional reserve to next level down, to the public.

- eliminate credit monopoly of banks.

- individuals could only lend capital to banks, but interest earned or other income - risk income - to anyone. Systemic risk would be sequestered in the banks.

- money supply would be stabilized since credit velocity would slow. Lending would be either p2p or to banks.

- Interest would yield to individuals and savings would increase.

- money supply would increase as more income is lent to more banks as capital - fractional reserve to banks rather than from banks.

- banks would buy risk to enable p2p finance.

- rather than defend banks against depositors the lender of last resort would defend banks against risk irruptions and black swans.

- fractional lending by banks would be prohibited.

- 'Negative coefficient' would keep credit bubbles from forming. Lending to banks would be savings to lenders and banks without credit formation ability would not have incentive to create excess credit. Excess credit that does form would be absorbed by banks as capital.

Etc. Etc Etc.

More thinking required.

Thank you for that thoughtful post,

IMHO the key to P2P finance is a "framework of trust".

I advocate a "Guarantee Society" approach, which is simply an agreement between participants to mutually guarantee performance of transactions.

This guarantee is backed by provisions by both sellers and buyers into a "default pool" held by a neutral Custodian, and the risk, and system, is managed by a service provider.

The result in the world of credit is banking without a bank as middleman (backing trust with a pool of proprietary capital), but with the banking function becoming pure service provision.

There is no need for credit intermediaries any more.

The result in the world of markets is to get rid of the central counterparty aka clearing house - which actually IMHO is a "single point of failure" where risks are concentrated - and to spread risk between participants generally, as it should be.

I will give a long reply later but this is down a parallel alley by Willem Buiter who is another economic philosopher I think highly of, this is about interest rate asymmetry:


As regards proposal (1) - the abolition of government-issued currency - other private means of payment (cheques drawn on bank accounts, credit cards, debit cards, cash-on-a-chip and other forms of e-money) could perform most of the legitimate/legal transactions role of currency. The monetary authority could also offer every citizen an account with the central bank, which could be administered through existing commercial banks, savings banks or post offices. These accounts, which would have to have non-negative balances, could pay positive or negative interest, as the situation demanded.

Oh yeah, read the comments ...

You forgot to mention how damaging volatility is to the companies trying to finance substitutes like renewables, electric transport etc. No rational banker would finance a solar thermal or geothermal startup which required a $70 base oil price to break even if there is any significant chance that the price might go below that for even a measurable minority of the term of the financing. The manipulators (in past decades, I've often wondered about S. Arabia's hand) can delay serious competition for decades by setting artificially low prices for even a few months, breeding uncertainty and debate.

The valuable part of this post (IMHO) is the notion that the "Contract" is as much a human artifice as is the "Price". Neither needs to be tied to physical reality.

As most understand, a "Contract" often takes the form of a bunch of abstract promises made on a signed piece of paper.

For example, "If you agree to take ownership from me of X barrels of crude in 120 days for price P, I promise to have a tanker filled with X barrels heading to your port in 90 days" (This is just a made up example.)

Nowhere in the set of exchanged promises is there a guarantee that the X barrels of crude actually exist or is there an identification of which X barrels we are talking about. Nowhere in the set of exchanged promises is there a guarantee that the oil tanker exists or is there an identification of which tanker it is.

Everything is an abstraction. And if enough levels of abstraction are embedded one inside the other, the Contract can become so obtuse that no one can take it apart (within a single human lifetime).

Then; these "Contracts" are traded. And a "market" is born.

Interesting perspective.

The way I see it is that first there may be negotiation.

Then there is a transaction involving an agreement - or contract - which may or may not be recorded.

Then there is an exchange of value, or "money's worth" to fulfil the contract.

Sometimes the agreement and exchange of value take place at the same time - a "spot" transaction, and sometimes there is a time lag between the two.

All of this takes place within a framework of trust - which may or may not in writing and may or may not involve guarantees and security.

The transaction also requires a value standard or pricing reference.

A market is defined by the contracts entered into in it.

Sounds like a bucket shop!

Hello all,

I had to accept Chris invitation.

My analysis is that there is no manipulation but that confronted with an inverted yield curve producers prefer to hoard their minerals in the ground where their storage cost is next to zero as short-term assets rather than invest the proceeds of extraction in long-term assets.

That behaviour might not be the result of concious behaviour but the natural result of arbitrages.

The more inverted the yield curve the faster the increase of the prices of minerals.

Given the large amount of liquidity made available by the FED and the natural behaviour of the yield curve, which tends to invert with time I expect the Mother of the Bubbles on Oil.

Read: Model of the Yield Curve.

The Commodity Conundrum Solved! The Hidden Parameter in Interest Rates.

Preparing for the Crash, The Age of Turbulence.

I am, Chris, sincerely yours,

Shalom P. Hamou

Is there a site that gives historic values of the yield curve? I would like to see how it tracks with oil prices in the past.

I think this is a very interesting development. I've been looking into high frequency trading, and was talking to some market participants today which made me think. Firstly, since the introduction of Ice screens and electronic trading, the market thinks it's protected from showing up its limits via anonymity and so-called "iceberg" orders. But as people like Sal L. Arnuk at Themis Trading are pointing out, proprietary algorithms via latency are breaking into the dark pools of liquidity that are available, without people knowing. PEople's cards are exposed.

MEanwhile, traditional oil players no longer depend on open outcry right? They all execute orders via ICE or Globex which provides them with the ability to "ice-berg" orders. But more sophisticated algos can unlock their order limits and therefore push them to the edge more quickly, moving the market as they go. What's more, the more sophisticated algos are also trading a much wider arb market. Not just WTI-Brent spreads. They're trading the arb being presented via the commod, interest-rate/Treasury market and potentially ETF market too. With so many commodity ETFs on the market -- the NYSE Arca platform coincidentally being the most popular domain for black box trading -- it makes sense that these algos have been set up to find milli-second arb opportunities that show up between commodst and the ETF shares.
Hence the increased correlation between commods, equities, interest rates and everything else.

A key development is that "curve shaving" phenomenon has been completely stopped too. BEfore Ice screens, traders in the pit had to physically account in their head for the curve, and come up with an implied number. Specialist "curve shavers" who could count the numbers better therefore appeared. (Goldman apparently among them).
With introduction of ICE screens you no longer can curve shave... the curve is there for the taking 24hrs a day. Goldman had to find a new domain.

Re: storage. I agree completely. Best maybe to think of it as high prices encouraging less production rather than more... As Chris points out, the financial inflows have been subsidising the physical players.
Anyway the curve from 2010 on is now all about interest-rates, and reflecting cost of money +inflation expectations. S&D if it does come into it, only does so at the front end of the curve.

My last observation is that the physical intermediaries are natural position takers. And they have a physical position to fall back on. Accordingly these guys are spending zero money on fancy algorithms. These guys trade with humans. Morgan Stanley, meanwhile, is also a position taker. This is not the case with GS.

Anyway, would be interested to see what you think.

Hi Izabella

I think that screen trading on ICE - which is a hugely liquid platform, will undoubtedly suffer from the same high speed trading issues as the other markets.

But that's just another zero on the wheel, to use the roulette analogy.

What I don't know is the way that the ICE system deals with the block trades of (say) 500 and 600 lot size needed to hedge cargoes. Not sure what you mean therefore by "iceberging"?

In the floor trading days the "crossing" and pre-arranged trading of large orders by brokers who just happened to have 500 to sell when the guy walked into the pit with 500 to buy was one of the more intractable problems I had to deal with.

One of the dodgy ways it could get done is by abusing the "Exchange of Futures for Physicals" and "Exchange of Futures for Swaps" mechanisms (essentially legitimate pre-arranged deals establishing a "basis" between on and off exchange deals).

Traders' games.

But my underlying point is that the real action and manipulation goes on off the exchange not on it and is strategic rather than tactical.

Your distinction between Morgan Stanley and Goldman is interesting, and one I have long had in mind. Of course, it would be uncharitable to point out that BP does take positions.

Best Regards



Thanks for your history lesson and analytical dissection of oil market forces.

I'm greatly interested in the solution you call 'unitisation'; could you be a little more descriptive in the details?

Well, The Oil Drum were kind enough to publish Banking on Energy and you should find this recent Energy Pool presentation at the Aberdeen All Energy Show gives the basic idea.

It covers a simple but radical Master Partnership framework for the unitisation financing of a North Sea "Supergrid".

I'm currently working on a prototype municipal partnership involving just a couple of turbines, but for me the most exciting possibility lies in the refinancing of existing secured debt with Units.

I could easily have written another couple of thousand words on that, but I figured people would have had enough!

This analysis is all well and good but in the greater scheme of things, it makes not a whit of difference. What happens if there were no price manipulation? We use oil. What happens if there is price manipulation? Well, we still use oil, delta some amount that either promotes oil consumption or promotes oil conservation.

So even with the great price spike we didn't change overall usage that much. I don't want to put a damper on what I consider a very courageous a d thoughtful post, but we have to stay realistic.

Over at HuffPo, Raymond Learsy constantly writes pieces on oil price manipulation without ever acknowledging the underlying depletion dynamics. Now what I would love to see is someone of Chris Cook's ceedentials both expose some of the antics of the market, while slamming some of the populist rhetoric that Learsy foists on the public. The reality is that fundamental scarcity issues do exist, and we need someone with the credentials to explain the reality of profit motive as we pass through peak. We know that it will happen (both scarcity and speculation), but the public at large may not.

For this comment at least, I have donned the outfit of a concern troll ;)

I also wish people better understood the geology behind depletion.

Price manipulation DOES make a big difference, however. It can decide when we give up on an energy resource - too early in the case of an artificially low price, or too late in the case of an artificially high price.

Price manipulation can't make us use an energy source to extract itself with an Energy Return on Energy Invested less than 1:1. But, chances are low that we would hit that wall before some financial bottleneck stops production for another reason.

My view is that it is only through a new financial and monetary architecture that we will succeed in making the transition from carbon-based energy to renewables.

There are two aspects to this.

Firstly, a disintermediated "peer to peer" market does not have profit maximising intermediaries with an inherent bias towards growth. In the partnership-based architecture I advocate it is possible to share both gains and savings in a simple but radical way.

Secondly, rather than monetising by government "fiat" something entirely worthless (ie CO2) we should aim to monetise energy by the simple expedient of enabling producers to issue Units redeemable in energy and selling them to investors.

In the case of Iran (where I have had interest at the highest levels) this would mean that carbon energy would be gradually increased to market levels, and bloody riots averted by issuing Units redeemable in electricity, gasoline and natural gas etc (ie fuels not crude oil) by way of an energy dividend.

Then Iranians have a choice. They can continue profligate fuel use, or rein in consumption and exchange Units for (say) Far Eastern consumer goods instead. (Since these energy consumer nations would undoubtedly prefer Energy Units to Dollars as a store of value).

Of course, it's not just Iran that is profligate with energy use, but it is probably one of the countries where the quickest gains could be made.

ie we simply monetise energy through the creation of Units redeemable in energy, with a "Value Standard" or Unit of measure - a "petro" or "energy dollar",the name is irrelevant for an abstract unit - consisting of a fixed amount of energy against which transactions may then be priced.

I am really having trouble trying to figure out what this plan would look like, what problem it would solve, what role it would play in the transition to non-carbon based fuels and why carbon-based fuel producers would even want to see that happen.

Your first point just seems to be to go back to a barter system based on the assumption that intermediaries cull value from the process. But why can't producers and consumers just cut them out now? I suspect it is because the current system is more efficient than the one you propose. However, if someone wants to try to create a better one, great.

The second point seems more disjointed. You seem to be suggesting a currency backed by energy but transacted/redeemed in products. To make this work, someone is going to have to come up with a complex and dynamic formula for devising relative values of these products. My guess is that it would either replicate, or be less effective than, the current market-based valuations. If the valuations differ from dollar/market valuations, traders will just arbitrage this.

I'm not sure why you seem to think it is so important that that redemption is done in non-crude products, especially in the case of Iran, which lacks refining capacity and i believe the ability to transfer large amounts of electricity to partners. Some clearer explanation of the base of an energy-based currency would be helpful here.

I see no natural connection between profligate energy use and fiat currencies unless you mean that it would force a command and control aspect on to the economy. Meaning that if trade is done in chickens, people get chickens rather than the alternate goods that they seem to want, but you don't want them to have.

Finally, it is not at all clear that consuming countries would prefer a promise of future delivery of energy from Iran to holding dollars. The country risk of Iran is so great as to offset any benefit of diversification. China might have adequate power over Iran to force delivery, but other countries or more so private entities would not. If they want to hold oil over dollars, why don't they just buy the oil?

Frankly, it seems like you are pissed off at the exchanges and brainstorming ideas for how they can be destroyed. While I have no reason to trust exchange participants or think they would not cheat, I don't think you have identified a solid enough problem to warrant a radically different system, or provide much evidence of how that system could work better.

IMHO there are two driving forces behind economic growth: firstly, the mathematics of compound interest on "fiat" money created as debt; and secondly the profit motive.

I am proposing an International Clearing Union - as did Keynes at Bretton Woods - but without a separate "issuer" of a fiat credit object he called the "Bancor".

I propose an amount of energy - an amount we can relate to eg 10 kilo watt hours or equivalent - as a "Unit of measure" or value standard. Let's call it an energy dollar.

The point is that no energy dollars actually change hands, but Units redeemable in different forms of energy will change hands in exchange for other forms of value (particularly the value of land/location which underpins most of our money supply) at a more or less fixed price BY REFERENCE TO the energy dollar.

The result is what Technocrats (of which Hubbert was one) called "energy accounting": although they ignored the fact that you can't account for the use value of location and of knowledge in energy.

The necessary credit (or "time to pay") will be extended between seller and buyer, and settlement will take place in whatever is acceptable to the seller. The Swiss WIR "credit clearing union" transacts billions of Swiss Francs worth of goods and services between businesses but no "fiat" Swiss Francs change hands in settlement.

Country risk could be managed by setting up International Trade Associations which are essentially a partnership/cooperative between a cartel of producers (OPEC is not remotely a cartel) and a partnership/cooperative of consumers. Since eg Iran would be financed optimally through the mechanism they would have an interest in ensuring that it worked and they would know that if they reneged on deals the alternatives they would have would not be attractive.

Frankly, it seems like you are pissed off at the exchanges and brainstorming ideas for how they can be destroyed.

Far from it. I have been working in the area where the Internet and markets converge for ten years now, and I regard exchanges as obsolescent in an age of direct instantaneous "Peer to Peer" connections. The fact is that oil traders migrated negotiations into instant messaging chatrooms because (a) it works, and (b) they could, should give you an idea of what's coming.

If producers and consumers get pissed off enough with the outcomes of the current structure they can - and will - create alternatives very rapidly indeed. Peer to Peer trading networks such as Liquidnet are nothing new.

Deleted duplicate post. Sorry.

Your point is very well taken WebHubble, because we now have a very bad situation indeed. As price went to $147 many "peaksters" married the price to the theory of peak oil by howling "see, see, we told you, this is proof, it's happening, peak is HERE!"

Now with the price back down to the $60 range, there is a lot of back shoveling, as these same peaksters say "well, of course it's more complicated than it may seem", wich is of course what some of us tried to tell folks all along (often at the cost of great derision and even ridicule)

The absolute last thing we could afford was a false alarm, and what we got was the mother of all false alarms. For many of the larger public the spike to the top and the almost instant crash back below $50 per barrel ended any debate about real depletion, the whole discussion became about "the market". The price is now seen as market game playing, nothing more. That is actually the correct view to take, and folks were misled to believe that supply changes of barely a couple of percent should have ever caused price moves of 300%. Now they feel foolish for having bought into the "peak oil hysteria". They won't do it again.

I have said it many times, price and peak are NOT causally related. one may have some minor influence on the other, but one cannot be used to predict the other, there are too many market and so called "above ground" factors.

I know some peak oil "debunkers" who seem to take comfort in this, but it is no cause for comfort, because what it means is that we really have no reliable indicator for the timing of peak. This is why the geological work of M. King Hubbert is still constantly referenced, because it at least seems to provide an overview. With out being able to use the price signal, there is no short term signal, we are running effectively blind at full speed. Peak may have happened 3 years ago...or it could happen today (one day is as good as any other), or it may still be a couple of decades away (a very short time span for the culture, but an eternity when it comes to financial planning) The fact that the oil price spike WAS NOT proof of peak, and the fact that the price proves essentially NOTHING is no comfort.

What we do know is that the false alarm (or perhaps we should call it false reaction, since the cause for alarm may be very real, we simply cannot know when)makes "peak oil", which was already a hard sell now an almost impossible one.


Did you know that US petroleum imports peaked in Sept 2005, Roger?

And with quite the spike, to mitigate the impact of Katrina/Rita. Now identify the response in the wake of Gustav/Ike - it's buried amongst BAU week-to-week fluctuations. And the impact of the fall '08 hurricanes were more severe on downstream activity, with crude prices dropping and refineries everywhere looking to beef up margins in whatever market could be had.

It is senseless to ignore the multitude of factors like this in accounting for crude prices. I enjoyed this piece but it was almost entirely hearsay - if I'm to believe that BP and the FIRE sector are yanking OPEC's chain to their ultimate detriment, I want to see some real data.

Yes, but that peak is just one of multiple peaks since WWII. What we are looking for is THE peak, the final peak, when there will be no recovery. This may be it...or, it could be 1979 all over again. Some would say "but look, it's been almost 3 years!" Indeed. Now look at the chart linked below, a chart shown on the peak oil article on Wikipedia, and note the period 1979 to approx. 1994.

Astounding isn't it? Oil production did not find it's way back to the old high of 1979 until the mid 1990's! What if the "final" peak had been hidden in that decade and a half of turmoil? could have been known, or proven? Many people in 1979 thought it was the end of the oil road. Temporary drops in production, even massive ones that can last up to a decade are not proof of peak. Price is not peak of proof. Many folks say "peak can only be proven in the rearview mirror" (it is a favorite line of Matthew Simmons), but how far in the rear view mirror? And what if the mirror is clouded by political and military factors (as it was in the 1970's, or by economic manipulation (as is occuring now, combined by international political events, (remember that we have had the biggest terror attack in U.S. history, and a major long lasting war, and now strain with Iran, all since 2000) Someone please tell me by what method we can prove peak?
And remember the lessons of 1979. "Wolf' was cried then, and no one took the possibility of depletion issues seriously for the next 2 decades...if we have cried "wolf" again, it ends the possibility that anyone will take peak oil seriously for the rest of our natural lives (if we are over 40), and we might as well go ahead and buy that new car and settle in for whatever happens. Because even if "peak" or "wolf" is true, no one will believe it.

I have said that whether we have reached peak oil now is really a moot discussion: If the oil is out there in easily extractable volume, we cannot burn it anyway if we accept carbon release/climate change issues. If it is not out there, no one will believe it anyway and any reduction in fossil fuel consumption will either be forced upon on or the reason we move away from oil is other than fear of peak. The game is really over, we just keep coming back here because we like to visit and argue with each other, sort of like the old "philosophical societies" of the age of H.G. Wells. I am interested in the pricing though...there is still money to be made:-)



I agree that we have to keep referencig the work of Hubbert, who really ignored the role of price. The following is a naive view, but the price of gold in barrel-weight equivalent is between 4 and 5 million dollars and in volume equivalent is 20 times this. We did a perhaps 3-fold increase in price of oil and went hysterical. Perhaps we have to realize price is a 2nd order effect at best and lots of slack is left in those terms (engineering talk and all).

I think the future discussion is in terms of depletion management which will form a common point of reference for both conservationists and AGW advocates. The deal is that I will start understanding these oil price manipulation theories as soon as Chris Cook and Raymond Learsy understand ELM, HL, dispersive discovery, and the oil shock model. This is real quantitative accounting after all, which has to form the basis for future economic theorizing, i.e. depletion management.

The drop in the early 80s was OPEC cuts, owing to both war and price control:

Meanwhile you saw robust non-OPEC gains - even California hadn't peaked. Whither the new North Sea? CAFE standards were rigorously applied, plus petroleum was phased out of electrical generation in the OECD, replaced by NG in the US and nuclear in Europe:

This cut out 1.8 mb/d of US consumption, phased out from 1978-1984 - the total for 1978 amounted to 10%. This is fat that can't be trimmed a second time, low hanging fruit that can't be picked twice. We can raise CAFE for sure, but price spikes in crude have preceded recessions, and under such economic duress auto sales will be limited.

That's my take on the unlikelihood of 80s redux. Brazil will likely just consume most of their vaunted new production, and they seem to be the brightest star in the sky at the moment.

My first graph should illustrate something remarkable - that even in the span of three years supplies had become so tight that arbitrage was limited in the US, the world's largest market, even after it had curbed imports for three years running, initially not owing to a decrease in consumption, either. Where was all this oil needed?

Another interesting point was that in 2008 the US exported a great amount of product - quite the load of diesel to Mexico, who were apparently on a buying binge. In the last few months a great amount of diesel has been shipped to Europe. Refiners are at a crossroads; here's an excellent .ppt from the EIA: Refinery Investments and Future Market Incentives

If you all recall the oil price spike last year, the Saudi's blamed it on speculators, NOT any supply/demand issue.


"Saudi Arabia and other OPEC countries say there is no shortage of oil and instead blame financial speculation and the falling U.S. dollar."

Just a note to say that upthread I posted one or two links to presentations posted on slideshare.

They had an issue with a rogue advertiser which led to a plague of popups selling anti-virus services (or maybe worse) but they seem to have sorted it out.

Interesting article but complex. I have a simpler explanation. The delivery mechanisms in the current oil futures contracts do not give rise to a "credible" threat that physical deliveries will be used to extinguish paper positions. Without this threat the paper market will not be linked to physical supply demand and the futures market price is driven by net in(out)flows to the contracts. GS et al know this and are driving up the price of oil by luring ever increasing flows of funds into oil markets through ETF's, index funds, etc.
That is why statistical analysis shows significant correlations between fund flows into contracts and interestingly, threat of legislation. It is difficult to construct a robust oil contract because of the logistic constraints (access to Cushing, size of cargoes etc) that are inherent in the nature of the oil trade.
One way to restructure the oil contract is to make it a composite of a model refined products (which are deliverable) construct. As long as the oil futures contracts remain structured as is funds flows will dictate the price and GS et al will take advantage of that flaw. Dont blame them blame the exchanges for the flaws in their contract design.

Chris, now that you have shown how the market can be manipulated without actually changing the supply, OPEC members will be dancing in the streets. Now they can produce flat out and still drive prices up.

Errr... well you did not actually show how it was done, you just stated that it was done. Actually most of the futures trading is in the near term contract. The market pays attention to that contract because it is the one that is the benchmark, such as it is. And that contract must be liquidated at expiration. Therefore every contract bought must be sold within 30 days or less, or when that near term contract expires. And that trade has the exact opposite effect on the market as when it was opened. Therefore we must infer that the market cannot be manipulated, long term, by the buying and selling of futures contracts.

I think you are just another conspiracy theorists.

Ron P.


You are clearly under a misapprehension as to how the energy market works these days.

The pricing benchmark for around 60% of global oil is the price of "Dated" BFOE/Brent (North Sea crude oil) as assessed/reported by Platts. Most of the rest, including WTI is indirectly priced against that benchmark through the massive arbitrage that takes place, mainly on ICE Europe.

What makes you think that most of the world cares what the WTI price is? That contract has been pretty much a playground for locals and the ancillary arm of the Brent complex for years now.

Moreover, the substantial trading of the cloned WTI contract which is traded on ICE Europe is not even in respect of a deliverable contract, but is settled in cash against the NYMEX price. These contracts have as much effect on the physical market price as a bet between me and you that the market price would rise or fall.

So position limits on this so-called "London Loophole" would be as much use as a chocolate teapot.

There are markets, such as the base metal markets dominated by the London Metal Exchange, and grain markets, where the cash market and the futures markets are integrated more closely. But it is always necessary to be in a position to make and take delivery in order to carry out manipulation successfully.

If I were able to look at the trading going on in the "Brent Complex" - which is the real "London Loophole" - and the positions of the big traders in those markets then, with help from a couple of good traders and a few forensic accountants, I could probably tell you EXACTLY what is going on.

And I doubt that it would be pretty.

But that's not my job any more. It's the CFTC's job and the UK FSA's job, and they are simply not in a position to carry it out because they are national regulators in a global market.

(a) they do not have access to the data;

(b) if they did, they do not have jurisdiction over many of the entities involved; and

(c) if they had, they have no real sanctions to threaten them with.

That is why I recommended to the UK Parliament's Treasury Select Committee last year when I gave evidence that a global transaction repository, or trade registry, should be created.

And that is what I would recommend to the CFTC as well as a starting point.

A Trade Registry

Chris, thanks for the reply. And thanks for informing us that the ICE is the world benchmark contract and that the NYMEX WTI contract counts for nothing. And thanks for informing us that if only you could tell exactly who is trading what then you could tell us EXACTLY what is going on. But you can't so therefore you can't. In other words you would tell us who is manipulating the market and how they are doing it.

And if you could do this then you could also tell us how they are going to unwind these contracts without having the opposite effect on the market. But you can't so therefore you can't.

But if you find out Chris, don't let the secret out. Because if you did then OPEC would find out. Then they could increase production by the amount cut since the collapse in oil prices, about 3 million bp/d, and still keep oil prices high. In fact they could do exactly what those other manipulators are doing and drive prices above $100 a barrel. Sigh, if only they knew.

What fools those OPEC folks are. They all think supply and demand for oil determins the price.

Ron P.


ICE does not trade the benchmark contract. It trades derivatives based upon the benchmark BFOE forward contract which is traded "over the counter". The price reporting service Platts assesses and reports upon the trading in the BFOE benchmark contract.

Of course supply and demand determines the price over time - have I said anything else? That is why I referred to Shalom Hamou's interesting thesis concerning the yield curve.

My point is that the participation of leveraged intermediaries causes the volatility from which consumers and producers suffer, and from which the middlemen benefit. Clearly you are happy with the way that the energy market operates, but I doubt whether there are many who would agree with you.

Manipulation is inherent in the market structure, and the dominant ICE trading platform is largely owned, and entirely controlled, by those intermediaries who profit from its use.

IMHO BP and Goldman Sachs lead the way, but as we see today, Citigroup's Phibro Energy Trading is giving them a run for their....sorry...our... money.

they are simply not in a position to carry it out because they are national regulators in a global market.

Exactly. It is obvious to any blind person that "modern" financial institutions are simply not controllable by any nation's regulator any more, if they ever were. I believe that when, in 50 years, historians sift the dust of the (?recent+?)/coming economic crash looking for "the" explanation comparable to attributing the 1930's depression to "economic isolationism and tariff barriers", they will conclude that this one is due to "political isolationism and regulatory barriers", eg. the US, UK etc. refusing to give up any sovereignty over what they wrongly percieve as "their" issues and problems.

Suppose we just step back for a minute and look at NOTHING but volume and price.

At one end of this supersimple model,volume is PHYSICALLY limited on the upside by geology and infrastructure,and arbitrarily limited by(OPEC mainly) producers shutting in production,for one of two primary purposes-to put upward pressure on prices,or to influence the political situation.I think we can ignore the second purpose for the moment for purposes of making my point.

At the consumer end it does not really matter at all,so far as I can see,WHO collects the oil dollar,in the short term.

(Of course in the long term,the eventual home of these dollars is of profound importance as wealth leaves one country and enters another,and as megafortunes grow and the owners thereof become ever more powerful.)

Consumers,collectively, have proven that by choice and by necessity, that they can influence price by reducing consumption.

Now we have the "speculators" in the middle.

I can very easily see how, in the short term,they can influence supply and price by putting oil in storage,temporarily holding it off the market,and how they can make money by anticipating spikes and troughs in demand and supply,such as are caused by hurricanes,unusually cold weather,etc.

And I can see how they can COST EVERYBODY money by causing seesawing prices that it turn disrupt smooth functioning of the economy.

I cannot see that the traders/speculators are powerful enough,or influentual enough,to have a big effect on the actual amount of oil produced,on the average,over any reasonably long time frame,say a few months.This does not mean that they couldn't rake it in with bulldozers during say the last few months before the price crashed from the all time peak of course.

And I cannot see that they are capable of influenceing consumption other than by temporarily driving prices up(or perhaps on some occasions,down,if they are caught on the wrong side of the fence and have to sell out while prices are falling due to an economic downturn,etc)

I can't see why the traders/speculators should be able to create a big LONG TERM increase in the spread between the price that crude producers are paid and the price consumers pay,unless they own/operate/are protected by some sort of cartel of thier own.The business world is full of such entrenched parasitic organizations.I would not be suprised if the oil traders have thier own,but if they do, not much is mentioned regarding it-as a regular here for several months now,I'ce seen nothing specifically along this line.

All the preceding assumes that "traders and speculators" are not actual physically important players in the industry-that is,that they don't actually OWN refineries,pipelines,oil fields,tank farms,and fleets of delivery truckls and chains of retailers.

If they don't own this stuff,then it seems to me that in on the average,speculating in oil must be fairly close to the "zero sum " game.

If they do own the industry,or significant portions of it,then the whole enchilida vis avis traders and speculators is no more than a false scent and as a market dog any one who is blaming "traders and speculators"for high oil prices is on a false trail laid by the industry.

Every country boy knows that an old coon can tie a dog's nose in knots by crossing and recrossing his own trail and running backwards(not physically,but direction wise)over another hot trail.

The industry would find such a whipping boy useful in helping deflect some of the ire of the public when they are making record profits.

And such a smoke screen could be useful to large and cancerously entrenched banks that ARE traders and speculators,and ARE big enough to control,either directly or indirectly,huge amounts of physical oil and physical assets -simply because the public has not EVEN TODAY really caught on to how banks have moved out of the "banking"industry and into day to day business world.

I guess what I'm trying to say is that one ,the traders and speculators so reviled by a lot of pundits are probably mostly one and the same as the industry itself,and two,if the traders/slash speculators didn't exist,whatever profits they are making would probably go mostly to the owners of the crude,since the crude owners have thier OPEC,and consumers have no cartel of thier own.

Am I making sense in my conclusions?

(I usually refrain from commenting very much about the oil market except in the very broadest terms of geology and overall demand to make some other point,as I do realize that I know almost nothing about it.)

I cannot see that the traders/speculators are powerful enough,or influentual enough,to have a big effect on the actual amount of oil produced,on the average,over any reasonably long time frame,say a few months.

Might it be possible for say Goldman Sachs or any other speculator to pay a "storage fee" to a producing nation to keep a given amount of crude off the market? Presumeably, there would need to be penalties for non-compliance to the "contract" but surely the big inventment banks could figure those out?

As I understand it that is exactly what Ecuador are asking other countries to do ie keep ultra heavy and nasty crude off the market. But that's for environmental reasons....

Come on... Removing supply and storing means you are rising the price. When you want to make profit, you have to sell, creating oversupply and price will fall. You'll be lucky if you come out of that without loss. The idea is actually to buy low, and sell high. Not the other way around. :)

Speculator buying oil and storing it in expectation of supply disruption (hurricane or something similar) is actually very good for the market, especially consumers. Speculator fills the tank in anticipation of disruption. They raise the price and induce higher supply needed for filling the tanks. If hurrican actually hits, the speculator releases the oil to the consumers (when it's most needed, when supply is short), ensuring normal functioning of economy and he makes the profit. If hurricane does not hit - it's his loss. He'll have to liquidate, lowering price and will suffer the loss. It's the job of speculator to take the risk.

It's only really government strategic reserves would make a dent in the price, I think. Private tankage and oil in transit doesn't actually cover that many days supply.

I think that the spike last year actually did the world a favour because it gave the sell side a fright just when they were getting rather triumphalist.

There is a window of opportunity IMHO to come up with a holistic global market solution because US consumers have seen the reality of $5.00 gas, and producers are unsure about the solidity of demand.

I have been involved in the oil markets as a trader since 1975, I have been hearing how various folks manipulate the market the whole time. I pretty sure some of the supposed schemes actually worked for a time, but their life span has shortened as the market has grown HUGE and become more transparent. As to one of the author's comments, regarding SemGroup, a) any human would be looking for someone to blame having lost that much money, any human would see someone, everyone as conspiring against him; b) Goldman is always handy as someone to blame, why blame another loser? c) the losses were CLEARLY the result of a poor fundamental trading strategy (betting on a "return to mean", same thing that busted LTCM), and the abject failure by the trader to realistically recognize the losses as they grew, always remember and never forget, "the market can stay irrational longer than you can stay solvent" and, d) the complete lack of any internal controls (what is an auditor's opinion worth?).

Looks like there's going to be some Congressional hearings on the issue this week:


Speculators Cleared in U.K. Oil Volatility - WSJ.com

Britain's financial regulator has found no evidence that speculators are behind big swings in oil prices, as politicians in the U.S., the U.K. and elsewhere have suggested, according to people familiar with the matter.

Like other regulators around the world, the U.K.'s Financial Services Authority, which monitors all of the country's markets, has been examining whether speculation has driven big price changes in oil in recent months. The FSA is leaning toward the conclusion that recent volatility and price increases have more to do with uncertainty over economic growth than speculation, people familiar with the matter say.
[Gordon Brown]

Gordon Brown

The FSA's conclusions come as the U.S. commodities watchdog appears to be on track to smack down what it sees as "excessive speculation." The Commodity Futures Trading Commission has recently proposed a sweeping package of reforms to ensure the "fair, open and efficient functioning of futures markets," including more reporting requirements for hedge funds, application of caps on energy investors and elimination of existing waivers.

Thanks chris for that superb article. I have a good deal of respect for your recent work looking for solutions to our economic problems and hope you get a good deal more airtime and attention in the future.

The point you made about oil in the ground being a good short term store of value when the yield curve is inverted and we're facing deflation is a very important one.

At what point does oil become money? Presumably once the liquidity premium on oil in the ground exceeds that of cash? But liquidity premium on cash also increases in deflation, so I'm not sure I understand the dynamics here, unless you are talking about oil vs debt-money (debt of course having decreasing liquidity in deflation).


In fact I am attracted to Shalom Hamou's insight in relation to the yield curve, I can't take credit for it.

unless you are talking about oil vs debt-money (debt of course having decreasing liquidity in deflation)

....which is of course the reason why it's happening.

It is my case that in a "peer to peer" world, credit intermediaries are unnecessary, and therefore "money as debt" is unnecessary too, and can be replaced within a "credit clearing" framework, where the units of value that change hands are Units redeemable for value (eg the value of energy use, location use and other forms).

ie the requirement is for an International Energy Clearing Union

I appreciate Chris' time in posting, but have to say I'm not convinced. When looking at the big picture things become clearer.

Sure the future price can go wherever the money sends it (generally in backwardation in recent years). The spot price however must end with the oil either being sold into the market or stored. Changes in storage are basically negligible in relation to consumption. So ultimately, oil is consumed at the highest price the market will bear and this gives the spot price. You can't manipulate the spot price unless you can manipulate actual consumption. All the conspiracy theorists and scapegoaters would like to ignore that simple fact.

Secondly, people point to the collapse in oil prices as some kind of smoking gun showing manipulation. It shows nothing of the sort IMO. As soon as there is even a little excess oil on the market (as in a severe recession) the price can drop extremely low until someone is found with enough cash and desire to use the excess oil at a depressed price. Imagine a closed system where everyone eats a certain amount of food and there is a slight food shortage. The food price will skyrocket and people will still be starving. Eventually enough people starve (demand destruction) and now there is a slight food surplus. What happens? The food can't be stored easily so the price for the small surplus of food drops to near zero until demand picks up again. This market action is not unique to oil as you can see by looking at the price collapse of nearly every commodity during the recent downturn. Are all of these contracts manipulated? Quite a conspiracy that would be.

Lastly, yes I tend to agree the futures prices are manipulated all over the place. That's just the nature of the game and it generally doesn't bother me even though I'm a private trader who can't move markets. The manipulation is something that good traders learn to deal with and even take advantage of. What bothers me, and should bother everyone, is that the investment banks are gambling with borrowed money. Problem is, when their bets go bad, suddenly Goldman has access to Federal Reserve funding and other big traders default on loans and those losses get passed on to the US taxpayer in bank bailouts. The real culprit here is fiat money which the banking industry can create for itself. One day maybe America will wake up and realize there is no reason to allow privately owned banks the exclusive right to counterfeit currency for their own benefit.

So ultimately, oil is consumed at the highest price the market will bear

But of course this is also the lowest price the market will bear at that moment.

This market action is not unique to oil as you can see by looking at the price collapse of nearly every commodity during the recent downturn. Are all of these contracts manipulated? Quite a conspiracy that would be.

I agree. It is in fact the dysfunctional structure of the current market paradigm which I am addressing here. ie the toxic combination of intermediaries operating for profit and the gearing which arises out of derivatives and deficit-based money.

You identify the very same point that Shalom Hamou does, and that is that there is a common factor at work across all markets here. He identifies it as decision making based upon profit maximisation by producers, rather than the cost of marginal production.

Hence my title: manipulation is inherent in the market architecture.

There are no "high profits" in future markets, as futures are zero sum game (one has to lose for someone to profit). Except for brokers, of course.
You can profit only if you guess the right price, but everybody is trying to do that knowing that all the others are doing that too.
I don't understand your comment about profit and marginal costs. Every company tries to maximize profit (probably any living being does so). If price for putting the new barrel on the market is 50$, then price has to stay somewhere near. It can exceed that price if that barrel cannot be delivered in time (current need is great). Then the price will go up until somebody decides that he cannot buy that missing barrel and gives up bidding. The buyers purchasing power is the only limit here.

On the other hand, I believe there is something manipulating the market. However that is not in the futures market nor on the side of producers.
Given low or negative real interest rates and oil appreciating in price, there is no reason why producers should remove oil from ground and sell. They will rather keep it in ground (hold appreciating asset), rather than sell and hold depreciating asset (cash). The problem is not the expectation of inflation per se, the problem is the expectation of inflation and negative real interest rates (nominal interest rate < inflation). The buyers will now have to pay the premium for spot (hence backwardation). However, unless the nominal interest rate rise, there is nothing to break that closed feedback loop.

You express Hamou's point infinitely better than I did.

The problem is not in the markets or speculators. The problem is that there exists arbitrage opportunity for making profits, however action of market participants do not remove it (and that is impossible in the free market). When such opportunity exists, the market forces move the market in a way to remove that profit opportunity. That balances the market. Big profit opportunity signals the market inefficiency - suboptimal resource use which has to be corrected. The real problem rises when another force intervenes in the market in such a way that market is unable to clear.
The manipulation is on the side of monetary authorities, who lowered the nominal interest rate way below inflation and thus made them negative in real terms. When you have inflation, interest rate is supposed to rise, not fall or stay the same (to keep the real interest rate positive). Raising interest rates act as an anchor for inflation. Since keeping the interest rate lows means you have to constantly add liquidity to the money market which in turn raises inflation - and that means that interest rates should rise (however you are keeping it artificially low and are pouring even more liquidity to keep it down), you have the closed feedback loop that cannot stop. However, the market still have the way of balancing: through rising the price of goods to the point of pain for general population. That is not what central banks want, so they put the blame on speculators. Market intervention in one place leads to market intervention in the other place. If only they could manipulate the price, they think, everything would be sunny.
That's why you see a almost perfect correlation among prices of lot of goods: oil, metals, grain, Baltic Dry Index (BDI), houses, stocks etc. Even metals and grains that are not traded on the future exchanges are raising in price as well as everything.

The real culprit here is fiat money which the banking industry can create for itself. One day maybe America will wake up and realize there is no reason to allow privately owned banks the exclusive right to counterfeit currency for their own benefit.

For a bunch of biotic oil believers, we're not too smart when it comes to the creation of money.

Back in the day, when dinosaurs roamed the Earth and plant material was depositing into sediment to from the origins of oil, there was no "money" (fiat or otherwise).

Somewhere in history, mankind came a long and invented this "money" thing straight out of thin air.

To this very day, the same physics applies. "Money" is generated out of thin air. There are no laws of physics to stop a Trillion units of "money" from being instantly fabricated out of thin air, or a Quintillion, or a Google-illion (if that's a word).

The Federal Government needs a front store operation to launder its fabricated-out-of-thin-air money simply so the populous doesn't get suspicious. That front store operation is called the banks. When things go bad, we blame the evil banks. It never occurs to us that they are just fronts for the Federal Government. Helicopter Ben decides when mo' money is to be fabricated out of thin air and when less is appropriate. All the rest of the discussions are simply about how the front store operations dress their windows.

As they say in that Love Story movie, "Being Federal means never having to say you're short on money." (Well, OK. They didn't say that. They said something about love and sorry. But the same is kinda true for the Fed. They love mo' money and they're sorry when someone suggests they stop printing trillions more of it at the snap of a finger.)

Speculation is highest when the 'unknown' factor is greatest. Some of us have sophisticated models to indicate how depletion will play out. However most people tend to ignore or remain naive about this killedd of model ... something about fear of math. Therefore we will continue to see speculation and huge price volatility. Fear of math translates into the fear of the unknown and this is what you get.

This is a pretty simple example, but say that you had a Honus Wagner rookie baseball card. What would it be worth knowing it was the only one out there, versus an unknown number on the markeet. Then add rumors to the mix indicating that there are others out there. Prices on the card will fluctuate all over the map. No one has oil depletion figured out, which makes it a great rumor mill. It is to many a significant advantage to keep everyone dumb about this to allow the greatest swings in speculation to occur.

Is this really that hard to understand?