Oil Futures Market

[Merryprankster]

Would somebody like Water Dragon, who actually does this kind of stuff for a living, please verify that the oil futures market is what drives the worldwide price of oil, barring drastic decisions on OPEC's part to close or open the spigot?

Thanks.

[Vapour]

I don't do this for a living but I have degree in economics. So let me give a shot.

Future market is basically a place where people exchange promise to sell or buy commodities in the future for a fixed price. So say, today is monday, you could purchase from someone a promise to sell rice per kilo for $1 on Tuesday. When tuesday comes, this someone must sell this rice for $1 kilo no matter what is the price of rice on current market. So if the price of rice is $1.2 in current market on Tuesday, you could sell your rice for that price and profit $0.2. On the other hand, if the price of rice is $0.7 in the current market on Tuesday, seller could purchase rice for $0.7 and sell it to you for $1 which net him $0.3 of profit because this is two way deal where you must buy the rice at this particular price.

Since very large number of people place bet (i.e. buy or sell order) on what future price of oil would be in the particular point in time of future, as a aggregate, the price in the future market gives the best prediction of oil price thought it is not necessarily always correct.

For this reason, OPEC use the price in future market as a sort of benchmark of oil production quota.

[Merryprankster]

Since very large number of people place bet (i.e. buy or sell order) on what future price of oil would be in the particular point in time of future, as a aggregate, the price in the future market gives the best prediction of oil price thought it is not necessarily always correct.

Right, and since that aggregate is so large the idea that any one entity can control oil prices is somewhat obsolete, is it not--like I said--barring MAJOR production increases and decreases that would have to be jointly decided by the oil producing nations, right?

It's kinda like the currency market in that governments can't buy their own currency to drive up prices anymore because they just don't have enough buying power, correct?

[Water Dragon]

I'm not an expert in futures, they're somewhat confusing to me. I'm much more of an economins/market theory person.

What I can tell you, is perceived suplly/demand supplies have a large effect on oil prices. For example, if OPEC cuts production and we're looking at a cold winter, oil prices will go up as there is a perceived lack of supply.

If we take Iraq and stabilize the region, oil should go down as there will be an assumed increase in supply regardless of demand.

In regards to what Vapour said, I think we will see Oil up for a while irregardless of the Iraq situation. Markets are still overvalued, we have an immediated deflation risk, and after that, we have a risk of double digit inflation ala the 1970's.

This situation makes ALL commodities more valuable as tangible assets are good bets in both deflationary and infaltionary times. This is because commodities hold value in and of themselves. They are not tied as directly to currency flows as other markets.

The currency market is a little different. The dollar's strength is based off the power of the US economy. Oil's strength is based off the fact that oil can be used in and of itself, it has value because it can be used directly.

[Vapour]

Hmmm, oil is a complex market in the sence that politics often influence market.

Firstly, no one can control the market if there are 10 of thousands of buyers and sellers. Oil markets are not that competitive.

Even though almost everyone around the world use oil, at distribution poins, there are fewer players. So-called oil majors (B.P. Esso, Texco and so on) are only handful. Furthermore, often oil producing nations have nationalised oil production company in partnership with these oil majors.

Oil is *the* fuel of any modern economy. There are no alternative fuels cheaper or convenitent enough to replace oil (nuclear too expensive, hydro geographically limited). So there are huge national interests in securing supply of oil. Firstly, one should realised that when we say oil market, we are only talking about two market that is one in Texas and other in Britain. As far as I know, U.S. and Britain is the only major oil producing countries which sell oil to open markets. (I'm not expert so correct me if I'm wrong) Majority of oil are traded directly between countries in quasi political deal. World oil reserve are still geographically concentrated in Middle East countries most of which are not democratic. So, for example, Japan buy directly from Iran. U.S. buy huge quantity from Saudi Arabia. And we all hear about Iraq's smuggling of oil to Syria and Jordan. And these oil are sold for huge discount compared to the market rate. Of course these deals aren't charity. Saudi get political and military support for their repressive regime. Iran get huge oversea aid from Japan plus Iranian get unlimited access to tourist visa to Japan. That is why so many iranian works illegally in Japan.

Another important characteristic of oil market is that there are huge disparity in the production cost of oil. In Middel East, oil sort of pump out from desert (o.k. it's not that easy but you get the idea). In North Sea, you have to drill the sea and one have to pressure pump it to extract oil. Plus oil extraction at sea is very dangerous. So if the current market price is say $15 per barrel, in Saudi, they can produce oil for say $3 per barrel ($12 profit) while in North Sea, it's about $11 per barrel. (I'm just making up number here). So if Saudi Arabia wish, they could drive NorthSea operation out of business by start selling oil for $3. Instead, Saudi got together with other Middle East countries which have very low production cost to go for the higher profit margin which is the main idea of OPEC. But then there are lot of countries which aren't in OPEC which take advantage of OPEC's production quota. Plus cheatings by OPEC member are rife.

So, in the end, yes, market force sort of operate in oil market but it is the most politicised commodities market in the world.

Lastly, do you know which country is said to have the largest undiscovered oil reserve in the world

Iraq.

[Nick Monticello]

Funny, but oil has dropped considerably since last Friday. I sold June Crude Oil about $32 a barrel (X 1000 Barrells), for a profit of about $6000 per contract.

With the war and all, you'd think the price would have gone up as people would be trying to lock in thier supply ahead of time, but it did the opposite.

Here is a URL to the Crude Oil page from a free charting service I use.

Chart for Crude Oil

If you look at it, you will see a week ago Thursday, (Before the bombing) the Crude Oil broke below support, and triggred a sell signal. I waited an extra day just to see if it continued to drop, and got in a bit late, but still $6000 for doing nothing but placing an order is not bad for a weeks work.


I think OPEC dumped a bunch of supply on the open market or something. I would have bet it was goiing up, but when the chart broke low, I HAD to sell it according to my system.

[Vapour]

The same thing happened in Gulf War I. The moment allied forced entered the war, the price of oil went down because the market predicted that war will be over in very short time.