Saturday, July 12, 2008

The World Needs MORE Speculators

I struggle to understand how speculation is supposed to be both profitable and destabilizing all at once. Profitable speculation requires buying low and selling high. Destabilizing speculation requires the opposite: short-selling shares in a trough, thus deepening the trough, and betting that frothy shares will become frothier. In other words, destabilizing speculation means selling low and buying high. If that is a recipe for profit, I am missing something.

Profitable speculators, in contrast, are veritable philanthropists. When they think oil is going to become more expensive, they buy and hoard oil, or they buy oil futures, encouraging others to buy and hoard. This raises oil prices when they are relatively cheap and lowers them when they are relatively expensive.

True, when speculators make mistakes, that is destabilizing. But in the case of oil prices, it's hard to see that speculators are playing much of a role. For one thing, inventories don't seem to be rising. If the inventory data are correct, consumers were burning all that $135 oil.

The world needs more speculators, especially of the short-selling variety. More short sellers in the dot-com bubble of the late 1990s, and the housing bubbles of the past few years, would have added a welcome dose of stability and sanity.

Tim Harford in today's


At 7/12/2008 12:42 PM, Blogger spencer said...

For all practical purposes speculation is a zero sum game.

For every speculator that makes a killing another loses his shirt.

Meanwhile the exchange or market maker, just like a Nevada casino,
takes their cut.

Why do you think the Chicago exchanges runs constant classes for new traders. They have to have a constant new flow of suckers, sorry traders, to replace the bulk of the prior crop of new traders that lose their shirt.

At 7/12/2008 2:19 PM, Blogger King said...

For all practical purposes speculation is a zero sum game.

Not so. It transfers risk from those who wish to shed it to those who are willing to bear it for a price that both agree to. It's positive sum in this regard.

The vigorish or vig in gambling is a fee for booking, a transaction cost paid for the creation of a market. There are multiple exchanges or bookies, so the fees are competed down to marginal cost of creating the bet or contract.

At 7/12/2008 2:48 PM, Blogger Unknown said...

"Profitable speculation requires buying low and selling high."


A speculator can be profitable by buying high and selling higher. No destabilization in effect if prices rise smoothly on an uptrend.

Similarly, speculators can be profitable by selling short low, yet covering their shorts lower. This is what is happening in the equity markets lately.

The Sophist says oil market moves and equity market moves are related in the last year or so and affected by speculation by powerful hedge funds.

The startegy is simple: create a bubble in oil futures and sell stocks and the dollar.

They make a killing, ripping off consumers, while some people rake upon the task to defend those type of speculators whose aim is manipulation.

A speculators is like a soldier. He can be defending his country or invading another for no good cause but to grap wealth. You cannot place all speculators in the same basket.

At 7/12/2008 3:56 PM, Anonymous Anonymous said...

The strategy is simple: create a bubble in oil futures and sell stocks and the dollar.

If it is simple, please explain how such a thing can be reliably accomplished.

At 7/12/2008 4:16 PM, Blogger bobble said...

This comment has been removed by the author.

At 7/12/2008 4:22 PM, Blogger bobble said...

This comment has been removed by the author.

At 7/12/2008 4:30 PM, Blogger bobble said...

argh! sorry for the delete's. i'm having problems with my link

here are other ways to speculate in oil besides the futures markets.

consider this news item from 2004.

". . .[investment] banks have begun to buy up oil supplies directly. Morgan Stanley and Deutsche bank recently bought the rights to 36m barrels of oil between 2007 and 2010 direct from a North Sea oilfield."

you think maybe this oil is being held off the market? stored in the ground?

so, professor, do you still think speculators aren't affecting the price of oil?

At 7/12/2008 4:39 PM, Anonymous Anonymous said...

For every bullish speculator there is a bearish speculator. If you become too bullish and hoard contracts you may have to eat the darn things.

At 7/12/2008 4:49 PM, Anonymous Anonymous said...

For all of those that damn the 'speculators' I have a solution: Reap those same profits by becoming a 'speculator' yourself. Is this a great country or what?

At 7/12/2008 10:48 PM, Anonymous Anonymous said...

just a few definitions from an article by ed wallace in response to peter coy of Businessweek: " I'm sure you didn't mean to suggest that speculation and manipulation are both acceptable behaviors in tight commodity markets. As we both know, there are three classes of traders in the futures market:

1. Traders—people who are bidding with the intent of actually taking delivery of the goods on the contract's due date;

2. Speculators—those who are simply there for the profits to be made by flipping paper; and

3. Manipulators.

To the best of my knowledge, manipulation of the market is still illegal. In fact, most have forgotten that BP (BP) was caught manipulating the propane market in the winter of 2004 and fined $373 million.manipulating the market for natural gas futures on Nymex. Amaranth had been told to liquidate its position by the Commodity Futures Trading Commission because it had created "unnecessary price volatility" for natural gas, far beyond what natural supply and demand would cause. Amaranth simply shifted 80% of its holdings into "the dark ICE market," where "Amaranth's traders knew this move would be invisible to regulators," allowing them to "maintain or even increase their overall speculative position." It is believed that Amaranth moves cost "industry, commercial and homeowners as much as $9 billion." All quotes from the House subcommittee on oversight & investigations, Dec. 12, 2007.

Now we can start to get a handle on how oil prices are already drastically reducing demand. We started this year with oil around $100 a barrel and witnessed demand destruction of 2.5%, or approximately 525,000 barrels a day. But, as oil moved past $110 a barrel, demand destruction jumped 60%, to 863,000 barrels per day. This is important; everyone loves to argue that even if our demand is down, China's and India's insatiable quest for ever more oil equals or outstrips our demand reduction, but that's not so. And as for the reason that oil supplies are not building right now? Simple enough. Refiners' margins, or crack spreads, are nowhere near as strong as they were this time last year. Economics 101 dictates that when sales and profits are down you don't carry excessively high inventories, particularly when future inventory costs are much higher than they were for the product you purchased just a few months ago (and might still own). If I were a low-margin refiner right now, I'd be burning off old oil inventory, which I might have purchased at $100 a barrel, before I started losing money by stockpiling oil at $140. Car dealers reduce inventories in slow periods. So do department stores. It's the most obvious reason in the world why oil reserves on hand are declining, but everyone seems to have missed that, too.

By 2015, all bets are off the table as to oil. We both should write columns on how America needs to prepare right now for that eventuality. But I'm writing about today's market, not eight years out. "
see whole article:

At 7/13/2008 3:45 AM, Blogger juandos said...

Well whatever credibility Ed Wallace may have had was shot to hell with this bit of inanity on his part: "By 2015 the world will be faced with a legitimate and serious oil supply-and-demand problem. Many oil insiders have told me that it will be an enduring energy crisis that has the potential to radically reorganize our economic society"...

Pure, unadulterated crapola...

Who were these alledged insiders and what are their supposed credentials that make them worth listening to?

Now if uninformed and abysmally ignorant people continue to elect fools to national and state offices then a supply-demand problems will persist, maybe past the point of fixing it...

We have more than enough domestic energy potential to blast past, way past 2015...

U.S. Solid and Liquid Fuels Resources
(Total endowment 9,033 billion bbls oil equivalent*)
(page 13 of 38)

Ed Coy says: "You're not alone; almost everyone apparently missed my column's real point. I'm simply pointing out the poor state of reporting on oil, in which hype passes for news"...

Well apparently those, "alledged insiders" saw Coy coming from a mile away...


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