Everybody points out that a large chunk of the current price is not just demand but speculation, an oil bubble.
I came to the conclusion that beliefs about the price of oil being driven by speculators and "investors" in the commodity are not justified. Commodities are different from stocks - every time a long position is opened, someone else MUST agree to take a short position to offset the long. The algebraic sum of the entire open interest always remains zero.
As time of expiration approaches, the vast majority of contract holders will close out their positions. Half of their positions will have made money, the other half will have lost exactly the same amount. What will determine the outcome will be the cash price at expiration - and that is determined purely by supply and demand. At that point, the ONLY parties still at the table will be buyers who plan to take actual (physical) delivery. At that point the price is fully determined by supply and demand.
Obviously, the final cash price will be the determining factor for contracts further out in time (remember? for each long "investor" there must be someone who will *agree* to take the short side - and both will look towards the cash market for guidance).
"Long only funds" and other players that "invest" in the commodity are like people who bet on sports - the outcome will determine whether or not they make money; they will NOT influence the outcome. Makes no difference how many bets have been placed on contracts further out in time - they will cancel each other out.
That's why, I think, calls by politicians to limit "investment" in commodities in order to cure "bubbles" will not have the desired result. (They would, come to think of it, cause a bubble in oil related stocks - which would remain "unregulated")
Recently, during a discussion of this subject one of my correspondents who gave this matter considerable thought sent me the following comment - which summarises it, imo, beautifully and in simple terms:
"I'm with you on this one. I don't see exactly how speculation in commodities can ultimately drive up the final price. Ultimately, the entity that takes delivery of the crude oil is the refinery. Nobody else has any use for the black gunk. Each refinery is competing with other refineries for the supply of oil thats out there. I'm not sure how any speculation in the market can ultimately impact the final price paid by the end user, which is purely a function of supply and demand."
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