I would like to get some comments from people on this thread on this. Why is there such a discrepancy on how oil is priced in different markets? I get that some oil needs more refining than others, and some is more difficult to extract. Are there other factors that explain the difference? This guy says that it is traders who make these markets--does that make any sense to you guys?
Broken Oil Markets
Daniel Dicker, Senior Contributor
09/07/11 - 06:00 AM EDT
NEW YORK ( TheStreet) -- A day like Tuesday makes it clear just how broken the markets have become.
I concentrate on the oil markets of course, but that doesn't mean I don't notice the disaster that high frequency trading has wrought on the equity markets, increasing the volatility and amplifying the moves that wreak havoc with investor accounts. I see the derivative trading in credit default swaps on European sovereign debt that have helped generate crisis after crisis -- first into stark focus, then just as rapidly fade in an unnerving cycle that roil credit markets worldwide.
I'm not talking about the realities of sovereign debt or stock markets that are clearly under pressure anyway. I'm talking about the mechanisms of modern markets that make every financial event a crisis and every momentum move generating millions of short-term trades skewing all logical values.
Day traders, ETF's, double and triple multipliers, algorithmic black boxes, hedge fund magicians are all there motivating prices based on technical indicators and relative price formulas, and not on fundamentals and valuations. No wonder there is more retail money on the sidelines than in any other time in history. They don't trust the markets for good reason: they are broken.
And nowhere is that more evident than in the oil markets Tuesday, where both major benchmarks of crude oil, the West Texas Intermediate (WTI) traded on the NYMEX and the North Sea Brent contract traded on the Intercontinental exchange (ICE) moved significantly -- in opposite directions!
It's just impossible. This is a move that even three or four years ago would have indicated a major supply disturbance in one of the benchmarks and a likely force majeure. But that's not what's going on here.
What's in fact going on is a completion of the financialization of these commodity markets to the degree that the commodity itself has often become less important than the financial influences upon them. The traders are running the asylum.
How else to explain these impossibly broken-down relationships? On Tuesday, it became clear that oil in the U.S. became price insensitive to very, very similar oil in Europe. Why? Because on Tuesday, oil in the U.S. instead became more related to U.S. equity markets as oil in Europe latched closely onto a correlation to gold.
I've noted this counter relationship before as the spread between WTI and Brent, historically very closely aligned, has reached an unbelievable $10, then $15, then $20 and now has zoomed to close to a $27 dollar Brent premium. And during this time I've watched the increasing correlation, on a daily basis, between WTI and the S&P index (caused I believe by a directed trade relationship of hedge funds and asset allocators) and between Brent and gold prices (caused I believe by a rebalancing of indexes and a use of European oil as an alternative storehouse of value trade to add to treasuries and the Swiss Franc).
What this tells us is how massively busted the oil markets have become -- if oil priced in the U.S. can come entirely unhinged from oil priced in Europe, especially two grades that are physically so similar, what does that say about the price that "oil" is trading for anywhere?
As my book, "Oil's Endless Bid" makes clear, that price is in fact not very reliable at all, moved more and more by financial inputs and less by the fundamental inputs of supply and demand. Indeed, a day like Tuesday makes clear that the price of oil stocks and the price of gold might have had more influence on what it costs to fill your tank with gas than what the global supply or demand picture of oil for the next several quarters is telling us.
What we're dealing with are some very broken, unreliable markets which unfortunately we must all rely upon. |
