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Oil Market: A Picture Tells A Thousand Words

by ChrisCook Thu Jan 1st, 2015 at 07:56:52 PM EST

I recently posted the second of two stories in 'Tehran Times' on the subject of the recent collapse in oil market prices, which I have been publicly forecasting consistently for over three years, initially at a major conference in Tehran in late 2011, and most recently on November 2nd when the oil price was still over $80/barrel.

Since it seems to have disappeared, I thought I might republish it at European Tribune.


A Picture Tells a Thousand Words

It is virtually impossible to tell someone that a belief essential to his world view is untrue: it's invariably necessary to show him. So it is that oil producing nations such as Iran, Russia and Venezuela all believe that the global market price of oil is based upon physical supply and demand.

That conventional view may been briefly shaken when the price collapsed from $147/barrel in July 2008 to $35/barrel in December 2008 while the physical demand for oil varied by no more than 3%. But the subsequent reflation of the price saw producers' faith in the oil market Gods restored.

Since I  predicted the current oil market collapse three years ago, I have not found it easy to explain in simple terms the way in which the oil market has been financialised and has therefore enabled Saudi Arabia and the US between them to 'peg' the price at a level comfortable for both.

The Great Transfusion
In 2007/8 a colossal pyramid of US bank debt backed by real property collapsed when the burden of debt became too great for the US population to support. As has been said if debt cannot be paid, then it will not be paid and this debt has not gone away.

The visible wounds of the US economy - the damaged private banks - have now healed through being recapitalised, but invisible internal bleeding continues into unsustainable and unrepayable property debt.

This requires a continuing transfusion of new dollars which have until recently been provided by the US Federal Reserve Bank ('Fed') in exchange for financial assets such as government bonds. This Fed economic policy of a programme of dollar creation and asset swaps is known as 'Quantitative Easing' or QE.

These dollars had to end up somewhere, and apart from conventional investments, new types of funds were created which enabled investors who feared inflation to invest in gold and commodities.

Perhaps the most sought after commodity as a protection against inflation is and was crude oil. A colossal amount of dollar lending - no one knows how much - was therefore made via investment banks to Saudi Arabia, and possibly to other GCC nations, by US funds in return for oil loans made through 'prepay' sale and re-purchase agreements.

The Picture Which Tells 1000 Words

This simple chart shows how the US Fed Quantitative Easing (QE) and Twist programmes of dollar creation are almost perfectly correlated to the US WTI crude oil benchmark price: itself linked to the Brent/BFOE benchmark oil price.

It is clear that when the QE transfusion ended in late 2014 the US financial bubble in crude oil prices collapsed - as I predicted it would. Another macro-economic effect has been that since the US dollar bleeding continued, the dollar transfusion must necessarily come from somewhere else. We therefore see the dollar exchange rate strengthening as dollars drain out of US creditor nations causing dollar shortages.

But don't take my word for it; take Mr Al-Naimi's word.

Mr Al-Naimi gives the Game Away

Mr Al-Naimi recently gave a major interview in relation to Saudi oil market strategy. Perhaps the most widely reported remarks related to the new Saudi strategy of maintaining market share even in the face of a decline in the oil price to $20/barrel.

In my analysis, Mr Al-Naimi's bullish posture is based upon the fact that Saudi Arabia can maintain market share simply by delivering crude oil into the market the economic value of which has already been pre-sold to investors.

In my view, the most telling - but little reported - comment in the interview is the following, on the question of how Saudi Arabia could withstand low oil prices even whilst experiencing a budgetary deficit:

(Interviewer) But you have announced that you will have a budgetary deficit?

(Al-Naimi) A deficit will occur.

(Interviewer) But what resources do you have in the country?

(Al-Naimi) We have no debt. We can go to the banks. They are full. We can go and borrow money, and keep our reserves. Or we can use some of our reserves.

I believe that Mr Al-Naimi's confidence is based firmly upon Saudi experience of monetising their reserves invisibly to the market for the last five years.

Through the use of prepay credit the Saudis and US have essentially turned the conventional oil market on its head. Market participants such as Iran, Russia and Venezuela wrongly believe that Saudi Arabia's oil supply still actively determines the market price. But the reality is that the Saudis are now passively allowing the market price to determine supply.

The market price is in reality now set - based upon an easily manipulated crude oil benchmark price - by financial intermediaries who profit commercially from volatility, on behalf of governments who profit politically from the economic damage caused to producers by massive swings in oil prices.

What may be done about this? As I have pointed out, Low Oil Price: A Window of Opportunity (Tehran Times 24 Dec. 2014) a window of opportunity now exists for introduction of a new market paradigm to be led by producers and consumers acting directly and collaboratively.

I have believed Iran to be capable of leading such an initiative since I wrote to the Iran Central Bank Markazi Governor Nourbakhsh on the subject in June 2001, and my next article will develop the proposal.

Window of Opportunity - Asia Times Version

Display:
QE has been sold in the media as a means of reflating economies caught in a liquidity trap and in danger of falling into outright deflation/recession.  However if the effect of QE has been to inflate oil prices, surely it's underlying impact on net oil importers has been to deflate their economies and exacerbate the risk of recession?  Conversely, the bursting of that oil price bubble now should help to grow the EU economy by lowering the cost of energy imports.  What am I missing here?

Index of Frank's Diaries
by Frank Schnittger (mail Frankschnittger at hot male dotty communists) on Thu Jan 1st, 2015 at 08:29:34 PM EST
Spot on. We have seen Bizarro effects thanks to QE.

The inflation hedging 'passive' investors (the antithesis of speculators intent on transaction profit) who piled into commodity markets have been mis-sold market risk by investment banks and ironically caused (a case of Soros' reflexivity) the every inflation they wished to avoid.

In doing so they inflated correlated commodity bubbles where the commodity forward price curve twitched with every movement of the dollar yield curve.

Conversely, the effect of the collapse of the bubble is to cut energy costs and free up purchasing power which tends to be inflationary.

What we have seen is a massive transfer of wealth to resource rent-seekers.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Thu Jan 1st, 2015 at 08:51:46 PM EST
[ Parent ]
Your linked article "Window of Opportunity - Asia Times Version" - is v. interesting.  Any evidence that Russia and Iran are starting to act in concert to develop a Caspian energy market infrastructure?

Index of Frank's Diaries
by Frank Schnittger (mail Frankschnittger at hot male dotty communists) on Fri Jan 2nd, 2015 at 07:49:37 AM EST
Not yet. Very early days. As far as I know this was the first time the concept has been officially floated by Iran.

"The future is already here -- it's just not very evenly distributed" William Gibson
by ChrisCook (cojockathotmaildotcom) on Fri Jan 2nd, 2015 at 07:58:57 AM EST
[ Parent ]
I've often wondered whether Baku is being used as a "cleansing terminal" to make Iranian oil into "Russian"

keep to the Fen Causeway
by Helen (lareinagal at yahoo dot co dot uk) on Sat Jan 3rd, 2015 at 02:30:31 PM EST
[ Parent ]
Not a bad idea, but no.

Electricity, on the other hand, has no nationality.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sat Jan 3rd, 2015 at 03:54:53 PM EST
[ Parent ]
My sense is that the Russians use a good amount of the Iranian oil domestically, freeing up their own production for export. That way they can more easily say that they are not selling Iranian oil on the world market.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sun Jan 4th, 2015 at 09:10:25 AM EST
[ Parent ]
In fact no Iranian oil reaches Russia by pipeline - I don't think it ever has.

The most economic method for oil transportation from Iran to Russia as things stand is to ship it North across the Caspian. But Caspian tanker sizes are limited and Iran's Neka port would need to be dredged to accommodate bigger tankers even if they existed.

With the recent opening of the new railway - one for Dodo here

it would be much more straightforward - albeit probably uneconomic - to ship crude oil by rail.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sun Jan 4th, 2015 at 01:53:25 PM EST
[ Parent ]
Qui bono? In the USA the Obama Administration is hardly friendly with the mostly Texas based oil interests, yet, given the visceral, personal hatred of Obama in so much of the oil patch - reminiscent of the sentiment in the same region in 1963 - one can doubt that they have been totally kept in the dark if the collapse of oil prices were due to actions involving the Fed and Treasury.  These same actions also impact the Wall Street 'paper refineries' after all, and we know how friendly Obama is with those folks. What are your views on this, Chris?

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Fri Jan 2nd, 2015 at 10:06:44 AM EST
I think the oil market barely registered on the Treasury and Fed's radar screen by comparison with keeping the US property market from melting down.

My guess is that what happened is that the Saudis panicked when they cut 1.5m bpd in the second half of 2008 and the price kept on going, and then asked their long time bankers - (JPM since 1933) to help out. Since JPM is the provisional wing of the Treasury/Fed they would have come asking the Goldman alumni who were running the US.

I think it will then have been the smart guys at Goldman Sachs (who with long-time partner BP completely control the Brent/BFOE/ICE complex) who cooked up the scheme to re-inflate the oil market while JPM rounded up the money necessary to support the price.

It is because Obama is a Wall Street president that this strategy did not commence until he had taken office in January 2009.

We then saw Goldman withdraw from principal trading and that is why JPM subsequently took on a key trader - Jeffrey Frase - to run what was to be a new line of business serving (maybe 'looting'?) the muppet funds investing in oil.

The bottom line is that Big Oil probably did not get a sniff of this, either then or to this day. Because if they had known that the physical market had become - courtesy of massive prepay 'oil loans' - a two tier physical market then regulators would have intervened and nipped in the bud the massive profits made by the one or two Wall Street refiners actually in the know.

Finally, I doubt whether the Treasury/Fed were clued up enough about the oil market to understand how fragile the price was becoming due to growing over-supply. Then of course for the US any distress caused to Iran, Russia and Venezuela would have been a feature, not a bug, but IMHO it certainly wasn't the motivation for ceasing QE.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Fri Jan 2nd, 2015 at 12:07:27 PM EST
[ Parent ]
Perhaps a future historian will substantiate this surmise, when memoirs, presidential papers and Fed records are available.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Jan 3rd, 2015 at 02:37:52 AM EST
[ Parent ]
Indeed. It took decades for the US petrodollar agreement with the Saudis to come out. These geopolitical deals/understandings are typically restricted to very few people and are probably not even reduced to writing.

"The future is already here -- it's just not very evenly distributed" William Gibson
by ChrisCook (cojockathotmaildotcom) on Sat Jan 3rd, 2015 at 05:41:37 AM EST
[ Parent ]
Let me see if I can get the condensed version right.

Since some time ago (when?), Saudi oil producers (or is this a global phenomena?) have sold oil in advance. Sort of like a Kickstarter, with the same benefits for the producers, they get the money before they pump the oil and they know in advance how much they will earn.

Since 2009 there has been a bubble in oil as money fled real estate and other crashing areas for soemthing with lasting and preferably increasing value. Bubbles need an inflow of funds, Fed made sure it was there by printing money. Pre-paid oil meant that it wasn't the oil producers who earned the money that oil consumers paid, but the market players.

As in most bubbles the market players can be split in sharks - primarily JP Morgan - and fish - funds trying to keep value. As usual the fish gets lured in by the prospect of big earnings and most fish gets in the end fleeced by the sharks.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Sat Jan 3rd, 2015 at 08:16:51 AM EST
[ Parent ]
Not quite.

Saudi's did not sell the oil in advance, That would have been a forward contract.

What they did using 'prepay' - sale and repurchase - contracts is essentially to borrow money directly from passive investors - ie risk averse investors who (not surprisingly) feared inflation, and who therefore invested in oil via quasi-equity instruments such as index funds and exchange traded funds.

These 'passive' investors were not speculators actively investing in pursuit of a transaction profit. Their motivation was the complete opposite - ie they are risk averse investors wishing to avoid the loss/erosion of their capital. Another way of looking at it is that their motivation was a return OF their capital rather than a return ON their capital.

So what happened was that the Saudis opaquely lent oil (via a sale and repurchase agreement) to these passive funds, and in return received an interest free dollar loan from the funds.

The role of banks such as JP Morgan was merely to facilitate the transaction, but of course they were able to make fortunes out of their privileged knowledge in respect of the flows of value into and out of the market and the Dark Inventory of oil which the Saudis held subject - unbeknownst to the rest of the market - to the temporary ownership of investors.

I characterise JPM, Goldman and the exchanges as a casino running a pretty bent operation. Their roulette wheel had a lot more zeroes than usual.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sat Jan 3rd, 2015 at 09:45:21 AM EST
[ Parent ]
And the reason Saudi Aramco didn't just draw a public bond series against its future production is that they got a better interest rate by going into a less transparent market?

That seems counterintuitive. I can see why the middlemen like that, because less transparency means they get to charge spreads that let them giggle all the way to the bank. But Saudi Aramco isn't some low-rent fly-by-night outfit that has to go on the gray market for funding. And anybody making over the counter deals with them obviously already accepted (and, presumably, got paid for) whatever political risk is involved here.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Jan 3rd, 2015 at 11:22:01 AM EST
[ Parent ]
... is that the oil companies used this construction to, effectively, establish credit facilities with entities who access the discount window on terms which would normally bar them from lending to people like Saudi Aramco.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Jan 3rd, 2015 at 11:25:13 AM EST
[ Parent ]
Since the Kingdom 'bought out' the Seven Sisters Aramco has effectively been nationalized. The company is a the primary source of revenue to the Saudi government. But having interest free money from commodity fund managers would have allowed more of the cash from oil sales to go into the sovereign wealth fund, and it is out of that fund that Saudi Arabia is financing the shortfalls that occur from the current drop in oil prices, for which they seem particularly responsible. The question goes to Saudi motives.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Jan 3rd, 2015 at 12:07:38 PM EST
[ Parent ]
As I have often pointed out over the years, if the history of commodity markets tells us anything it is that if commodity producers can extract resource rents with other people's money, then they will.

It's just that the Saudis - with a little help from their friends - have done it on a scale orders of magnitude greater than anyone in market history.

The ten year duration of this macro manipulation is not unprecedented. The International Tin Council cartel operated from 1956 until the Tin Crisis of 1985, while Yasuo Hamanaka manipulated copper for Sumitomo for five years before David Threlkeld blew the whistle and even then for another five years until the regulators finally woke up.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sat Jan 3rd, 2015 at 02:29:21 PM EST
[ Parent ]
It was not the passive funds who were lending the Saudis dollars via J P Morgan who were accessing the discount window. For as long as the trade persisted, the investors simply had economic ownership of oil and the Saudis had the use of dollars.

Where QE came in as I see it - and JP Morgan's access to the discount window - was in respect of the flow of dollars necessary to settle the continuing flow of actual physical sales of oil. Essentially there was (and in my view, still is) a virtual Saudi 'Oil Pool', being continually emptied by tankers and topped up with production, but in respect of which the Saudis had sold the usufruct to investors.

Once QE ceased JPM were no longer in a position to keep the plates spinning and in the absence of new physical or financial demand the market crashed.

Prepay is a claim issued by a producer of goods and services or by the owner of a productive asset over value supplied or produced over time. An issuer of a prepay credit instrument is obliged to accept that instrument, from any of his customers who holds it, in payment for supply.

But the holder does not have a right to a perpetual flow as with conventional (eg joint stock or freehold) equity; does not have a right to payment of money (which would be a debt instrument) and does not have a right to demand delivery (which would be a forward contract/derivative instrument). He simply has the right to use the instrument in payment for supply, instead of (say) dollars.

There can be no default in respect of a prepay credit instrument because there is no obligation either  to pay money or supply money's worth. The risk for a holder is that the issuer does not produce value against which the instrument may be returned either by him, or by someone else to whom he transfers the instrument.

This supply risk requires a framework of trust, and for bilateral transactions like the Saudi/US relationship this will involve a pre-existing supply agreement.

The current Rosneft/Sinochem crude oil agreement is an example of prepay.

Rosneft bought out TNK/BP as part of the Russian strategy to reinstate sovereign ownership of natural resources. But in order to do Rosneft entered into massive short term bank debt financing, which required replacement with long term funding.

How could this be done? The >$85bn agreement which was reached between Russia's Rosneft and China's Sinochem was a prepay crude oil deal. Prepay is a 'peer to asset' form of funding which cuts out both market and credit intermediaries.

Rosneft/Sinochem is a public prepay deal. Enron (as ever) were the first to use prepay and their opaque approach misled Enron investors and creditors alike as to their true financial position.

It is my case that for five years BP and Goldman Sachs's captive GSCI fund used bilateral prepay credit to opaquely ramp up the first oil bubble and spike, between 2004 and July 2008.  From early 2009 the bubble was then reflated using prepay investment by US passive funds in Saudi 'Dark Inventory'.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sat Jan 3rd, 2015 at 02:16:59 PM EST
[ Parent ]
ChrisCook:

Prepay is a claim issued by a producer of goods and services or by the owner of a productive asset over value supplied or produced over time. An issuer of a prepay credit instrument is obliged to accept that instrument, from any of his customers who holds it, in payment for supply.

But the holder does not have a right to a perpetual flow as with conventional (eg joint stock or freehold) equity; does not have a right to payment of money (which would be a debt instrument) and does not have a right to demand delivery (which would be a forward contract/derivative instrument). He simply has the right to use the instrument in payment for supply, instead of (say) dollars.

There can be no default in respect of a prepay credit instrument because there is no obligation either  to pay money or supply money's worth. The risk for a holder is that the issuer does not produce value against which the instrument may be returned either by him, or by someone else to whom he transfers the instrument.

Like a gift card?

So the Saudis sold gift cards to those wanting to secure the value of their holdings and JPM ran up the price using cheap QE dollars.

Now that QE is ending and JPM can no longer hold up the price. Neither can the Saudis, because they can no longer control market price if they want to honor their gift gards.

Is that it?

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Sat Jan 3rd, 2015 at 03:58:15 PM EST
[ Parent ]
Even closer.

A gift card is binding on the issuer who will show them on their balance sheet as obligations. If I have a John Lewis gift card they cannot refuse to accept it - as an alternative to £ - in payment for goods on open sale.

The Saudis could possibly cut enough supply for the current oil oversupply to clear, but probably only by ditching long term supply contracts.

As it is the current market oversupply; plus global stocks; plus falling demand (possibly); plus liquidation by funds; plus trade speculators finally jumping in to 'short' the market; yada yada, together mean that standing in the way of the steam-roller would be an expensive option and of course means they are sacrificing their own interests to help out everyone else.

I think the market has some way further to go before other market players - OPEC and Non-OPEC - realise collective discipline is necessary.

The Saudis will always honour their gift cards when presented, because they have no other option: they could never sue a customer who has prepaid, for non-payment of dollars, could they?

What is happening now, I think, is that the Saudi blether about maintaining market share is a smoke screen which post-rationalises the delivery of prepaid oil onto the market thereby repaying 'oil loans'. These deliveries of prepaid oil free up pre-sold Dark Inventory and enable the Saudis to gain in respect of this amount of oil as and when the market price recovers.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sat Jan 3rd, 2015 at 04:31:46 PM EST
[ Parent ]
So can we say that the halving of the oil price is having only a marginal effect on Saudi incomes, for the moment, if they are selling current production against prepaid vouchers?

Is KSA alone in playing the prepay game? If so, then they have a considerable advantage over the other producers.

It is rightly acknowledged that people of faith have no monopoly of virtue - Queen Elizabeth II

by eurogreen on Mon Jan 5th, 2015 at 10:21:19 AM EST
[ Parent ]
Saudi income is down, but they have massive $ reserves to draw upon, for years if necessary.

What they are able to do - if I am right - is preserve market share without collapsing the market price even more than it is already, because they are settling in oil, not dollars.

My thesis is that only BP and Goldman Sachs have also been playing the prepay game. Other market players such as Shell and ETF Securities have used exchange and/or OTC forward transactions.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Mon Jan 5th, 2015 at 01:55:47 PM EST
[ Parent ]
There can be no default in respect of a prepay credit instrument because there is no obligation either  to pay money or supply money's worth. The risk for a holder is that the issuer does not produce value against which the instrument may be returned either by him, or by someone else to whom he transfers the instrument.

It would seem that a requirement for such a trade would be that the buyer be convinced that the price of the commodity in question can only go up. This provides a cushion for the producer, as the buyers are reluctant to sell their pre-purchased oil at a loss. This is less of a problem for buyers who have an end use for the product, but for those for whom the product is an input to a process it only hedges them against increases in price.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sun Jan 4th, 2015 at 09:27:01 AM EST
[ Parent ]
An active investor who is purely speculating (ie putting capital at risk in search of transaction profit) would buy prepay credits if he had an expectation that the price will go up, so he could then sell the prepay credit at a profit. But of course he also risks a loss if the price goes down.

A passive investor on the other hand would buy the credit because he wishes to maintain the value of his capital by reference to the dollar. His motivation is to avoid loss and to hedge inflation.

A refiner of crude oil, like the passive investor, is also motivated not by expectation of profit but by fear of loss. He essentially wishes to insure himself against a rise in the dollar price of his raw material, and may buy prepay oil credits in order to do so.

Note that one of interesting aspects of prepay for an investor, whether motivated by fear or greed, is that of liquidity.  

The beauty of prepay is that whether or not financial buyers are in the market, physical buyers like refiners will always buy prepay credits at the best (or even any) price below the physical market price in payment for spot supply.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sun Jan 4th, 2015 at 01:27:07 PM EST
[ Parent ]
The refiner can be inherently hedged against price drops by keeping his forward contracts short term - all he really has to hedge is against short term increases in the price of crude. But he can even stop doing that if/when he fears the price will drop. But when there is a huge amount of money 'invested' in such contracts via commodities traders, much of it for the long term, their knowledge of the markets is likely to find them caught in the panic to exit, while the firms that solicited their 'investment' have been shorting the market, as during July of '08. One curious aspect of this drop has been the lack of an overshoot downward. The price went into the $30 range then. I am uncertain why.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Jan 5th, 2015 at 11:22:44 AM EST
[ Parent ]
Jake, I suspect that the 'interest free' aspect of the loan to which Chris referred might have been more important to the Saudis than most would expect. It sounds to me that it enabled the Saudis to construe the whole process as Shiria compliant.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Jan 3rd, 2015 at 11:58:59 AM EST
[ Parent ]
I think that this was probably a fortunate side effect. I frankly do not believe that the Saudis or anyone else in the region gives any more than lip-service to Sharia compliance.

"The future is already here -- it's just not very evenly distributed" William Gibson
by ChrisCook (cojockathotmaildotcom) on Sat Jan 3rd, 2015 at 02:19:13 PM EST
[ Parent ]
This sounds like a form of Islamic financing called bai' al 'inah.  It's been used in Malaysia and that region for some time, but a number of Saudi scholars had questions about whether it was shariah-compliant.  Apparently that's been straightened out.  Such facilities may look strange and nefarious to Western eyes, but they are SOP in Islamic countries.
by rifek on Tue Jan 6th, 2015 at 01:44:59 PM EST
[ Parent ]
Maybe it's just me, but I don't see any great correlation in the picture, let alone a perfect correlation.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jan 8th, 2015 at 10:59:07 AM EST
Price was pumped up during QE1, and falls immediately it ends.

Price pumped up again in QE2. Briefly falls once it ends.

Then through Twist and QE3 it's all over the place, but at a high or higher level.  

Finally, QE3 ends and the price has dropped like a stone.

It seems pretty clear to me but maybe you're looking for greater granularity.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Thu Jan 8th, 2015 at 08:31:24 PM EST
[ Parent ]
The sharp, unbroken drop at the end begins quite some time before the end of QE3.

There are some correlations which are sufficiently obvious that you do not need to deploy advanced statistics to detect them.

This is not one of them.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Jan 9th, 2015 at 01:41:00 PM EST
[ Parent ]
If you subscribe to the brand of pseudoscience known as "technical analysis" you could say that what happens at the end of QE3 is that the Oil price goes through a support trend line. Or something.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Fri Jan 9th, 2015 at 02:47:22 PM EST
[ Parent ]
Well, that could be accounted for by the long period of forewarning that the Fed gave before it actually ended QE. Still, it probably came as a surprise to those who thought they were entitled to free money. The Fed has been saying they would end QE since September. And then Yellen confirmed it after she was appointed. That is about the time the decline began.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Fri Jan 9th, 2015 at 03:17:23 PM EST
[ Parent ]
"Don't fight the Fed!" Received wisdom on Wall Street.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Fri Jan 9th, 2015 at 03:18:34 PM EST
[ Parent ]
While people obviously react to statements of intent, you have to believe in model-consistent agent strategies to believe that there is a smooth transition from the "action in expectation of announced policy change" regime to the "policy in effect" regime.

If QE were a sufficiently important part of the causal story that you can get away with this kind of ocular econometrics, then there should be a break in the trend when QE actually ends.

And there isn't, so it's not.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Jan 9th, 2015 at 05:59:45 PM EST
[ Parent ]
you have to believe in model-consistent agent strategies to believe that there is a smooth transition from the "action in expectation of announced policy change" regime to the "policy in effect" regime.

For values of 'you' = a significant portion of the participants in that particular market and stragety, yes. I don't have to believe it, for instance. And that could well be the dark side of intellectual capture by 'mainstream economics'. Hoist on their own petard!

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Jan 10th, 2015 at 09:29:13 AM EST
[ Parent ]
No, this really isn't a point that depends on what the market participants believe.

If QE had a real, mechanical effect on oil prices, beyond simply general moral suasion, then there should be a noticeable transition from the "QE is expected to end soon" world to the "QE has ended" world.

The totally smooth transition we actually observe is evidence that there is no strong causal story linking QE to the oil price.

The other alternative consistent with observed reality is that all market participants can anticipate the consequences of a world without QE, in sufficiently particular detail and clarity as to be sufficiently well-positioned for the new reality to ensure a smooth transition once QE actually stops being there.

But that last story? That's an unfalsifiable fairie tale.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Jan 10th, 2015 at 10:29:57 AM EST
[ Parent ]
If QE had a real, mechanical effect on oil prices, beyond simply general moral suasion, then there should be a noticeable transition from the "QE is expected to end soon" world to the "QE has ended" world.

Mechanical may be a bridge too far. All that would be required is for a small number of big players, TBTFs, to be concerned that the free money from the Fed was drying up to take action, all the while having their PR loudly proclaiming the opposite. Then some more would pull back out of caution and this would become something that might just start to be perceptible to a broader segment of participants. And that could well happen just when the inflection point occurred. Once the loss of confidence spreads it will take some players some time to exit. Seems that could well account for the shape of the curve. I would be interested in the opinions of experienced market players and may try to solicit some such opinions.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Jan 10th, 2015 at 07:14:31 PM EST
[ Parent ]
Bear in mind that there were in all likelihood only three firms in the know.

BP/Goldman - who had the capital to support the shrinking Brent/BOE market during the first ramp up and who essentially control the Brent/BFOE complex. But by 2009 they did not have the capital to do it on their own account, never mind on the scale the Saudis required.

The third was J P Morgan, the Fed's representative on Earth, who took up the running from 2009 onwards, and even hired Goldman's star trader to do so.

Note that I am not saying that the purpose of QE was to manipulate oil prices, but rather that this was a feature, not a bug.

While Dark Inventory was funded by muppet capital (quasi-equity), this was not enough in itself: there also needed to be a flow of dollars through the market from consumer to producer which JPM was able to access like no other.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sat Jan 10th, 2015 at 09:34:48 PM EST
[ Parent ]
Well, no, I'm looking for statistical evidence of correlation.  This doesn't show that.

It looks to me like the falls you're associating with QE2, Twist and QE3 all began prior to the end of those programs.  Mostly it just looks like the typical noise you see in the oil market.

Be nice to America. Or we'll bring democracy to your country.

by Drew J Jones (pedobear@pennstatefootball.com) on Sun Jan 11th, 2015 at 09:53:55 AM EST
[ Parent ]
So if you're J P Morgan & Goldman Sachs and you know QE is ending, and you know this will collapse the oil price, what do you do?

You get your retaliation in first is what you do. In other words your traders 'front run' the rest of the market.

And yes, that is indeed typical of markets, but it certainly isn't random 'noise'.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sun Jan 11th, 2015 at 03:11:14 PM EST
[ Parent ]
On what grounds do you "know" this will collapse oil prices?  That's my whole point.  You haven't demonstrated this.

Your entire point here is that QE props up oil prices.  I'm asking for actual evidence of it, because the chart you've used as "proof" looks like it proves nothing to me.  You're now answering with hand-waving based on the assumption that it does so, because reasons or something.

Be nice to America. Or we'll bring democracy to your country.

by Drew J Jones (pedobear@pennstatefootball.com) on Sun Jan 11th, 2015 at 06:01:17 PM EST
[ Parent ]
I didn't say it was me who knew. I'm not privy to what goes on in high level meetings which may or may not be written about decades from now in someone's memoirs.

I said imagine that you are J P Morgan and you know because you saw the price drop the first time QE ended? What do your traders do when QE2 and QE3 come to an end?

I'm outlining a theory based on my experience of markets in action; my assumptions as to market behaviour/instruments and my analysis based upon my assumptions.

That's the best I can do, I'm afraid.

Firstly, I provide explanations for market anomalies which as far as I know no one else has explained.

Secondly, I made accurate predictions three years ago (and I don't recall anyone else doing so) as to what would happen as a result of QE ending (Mind you, I didn't count on two more years of Twist/QE3).

Thirdly, no-one has yet poked holes in my case other than to say there is no proof.

As for QE propping up asset prices then I submit there is any amount of academic studies to look at if you're masochistic enough.

Oil is not only a consumable commodity, it is also, when stock-piled (or even left in the ground), an asset which through 'passive' Index Funds and Exchange Traded Funds has become a new 'asset class'.

I have been pointing out for perhaps five years that the 'inflation hedging' mis-sold by investment banks to risk averse 'muppet' investors caused the very inflation these investors aimed to avoid, and in so doing gave rise to a windfall to producers on a cosmic scale.

If you disagree with my assumptions and arguments, or perhaps consider that the oil market price reflects physical - rather than financial - supply and demand then I look forward to hearing your reasoning.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sun Jan 11th, 2015 at 07:51:24 PM EST
[ Parent ]
Yes, I've read many of those studies.  I don't think those studies say what you think they say.  But that's not the issue at hand anyway.  

You stated the picture was worth a thousand words, and that there was a perfect correlation between QE programs and oil prices -- implying that it was obvious.  I said it was not, as anything with functioning eyes should see if they actually look at it.  I then asked for statistical evidence.  You didn't provide any.

This is just gibberish, Chris.

Be nice to America. Or we'll bring democracy to your country.

by Drew J Jones (pedobear@pennstatefootball.com) on Tue Jan 13th, 2015 at 06:37:47 PM EST
[ Parent ]
Where do statistics even come into this?

I am referring to QE programmes: not to the flow of QE within those programmes.

If you think I am saying that oil prices react to every variation in the flow of QE then you are under a misapprehension.

I'm sorry, but you are the only person I have come across to date who cannot see - just by looking at the chart - that when QE programmes begin or soon after, the oil price rises, and when the programme ends - or just before, then prices fall.

But each to his own.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Tue Jan 13th, 2015 at 08:11:39 PM EST
[ Parent ]
There is no way the folks at Chase and Goldman couldn't have known what the end of QE would bring.  As I've been saying for 7+ years, the problem isn't liquidity but solvency, and since QE is a liquidity fix, it had to have some purpose other than actually righting the ship (Many have said that things haven't straightened out because there hasn't been enough QE, that the Fed brought a knife to a gun fight.  Actually, the Fed brought a flamethrower to a funeral: QE was a completely wrong response to the event.).  That purpose was simply to fill Chase's and Goldman's money hoses so they point them wherever they wanted.  They found a way to securitize oil that the Saudis could accept (See my earlier comment on bai' al 'inah.) and went to town with everyone else's money.  They knew that, when QE ended, the hoses would empty, and repositioned themselves accordingly.
by rifek on Tue Jan 27th, 2015 at 02:37:09 PM EST
[ Parent ]
Proofs are for mathematical theorems and for juries. Unfortunately, many, if not most, economists see economics as an axiomatic, deductive 'science', while the rest point out both the absence of any thoroughly agreed premises from which to deduce anything and the lack of agreement between observed reality and the predictions of the axiomatic crews. None of the most important aspects of any science of which I am aware mostly consists of making and attempting to falsify hypotheses based on experiment, which involves additional well known complications in the social sciences.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sun Jan 11th, 2015 at 11:47:51 PM EST
[ Parent ]
Okay?  I guess that's fine.  I haven't the slightest idea what any of that has to do with my comments.  I asked for, you know, evidence.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Tue Jan 13th, 2015 at 06:42:38 PM EST
[ Parent ]
You indicated Chris was trying to 'prove' something. He did offer evidence in the form of the graph, which you denies shows anything. I think you are over constraining the requirements by asserting that the rises and drops should be perfectly aligned with the beginning and end of QE sessions. If we are to assume that there is no insider information in play that might be a somewhat more reasonable assumption. But we know that there are massive dissymmetries in information in these markets. Well, Lucas and his lot would disagree.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Jan 15th, 2015 at 12:07:27 AM EST
[ Parent ]
Also, the intensity of QE was not constant. If I recall correctly, it slowed down quite a lot before being stopped altogether.

Earth provides enough to satisfy every man's need, but not every man's greed. Gandhi
by Cyrille (cyrillev domain yahoo.fr) on Thu Jan 15th, 2015 at 05:30:37 AM EST
[ Parent ]
Another confounding problem.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Jan 15th, 2015 at 11:15:55 AM EST
[ Parent ]
What's confounding is to draw a calendar and mark this or that date as the start or end of QE. One would have to at least look at QE purchase volumes.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jan 15th, 2015 at 12:27:50 PM EST
[ Parent ]
A good stock and flow analysis could tell a lot - if the data were available.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Jan 15th, 2015 at 05:06:43 PM EST
[ Parent ]
The Dark Shadow Cast by Cheap Oil  Barron's

On Thursday, investor Carl Icahn said on CNBC that he thinks that "oil actually will probably go lower," at least in the short term. And earlier this week, Bank of America put out a research note saying that oil prices both in the U.S. and overseas could fall to between $35 to $40 a barrel in the coming months.

In a piece for the Fiscal Times, veteran financial writer Anthony Mirhaydari makes the supply-demand case for why a further drop in oil is highly plausible.

"It's clear that a quick reversal isn't coming," he argues, referring to oil's price decline. " OPEC is showing steely resolve in its effort to recapture market share from U.S. shale oil producers. Most oil exporting nations are trapped in a prisoners' dilemma: They all want higher prices as their national budgets feel the pinch. But none of them want to make the production cuts needed to align supply with the depressed demand that has resulted from economic weakness across much of Europe and Asia.

As for the demand side of the equation, Mirhaydari adds that "demand is unlikely to soak up the excess supply anytime soon, with Europe stalled, Japan picking up the pieces from its recent sales tax hike and China still trying to control its runaway housing and fixed-asset investment bubbles without pricking its bad debt problem.

Saudi Arabia is best positioned to turn down the taps, but it appears to have spearheaded the oil price war in the first place for both financial and geopolitical gains. Comments from Saudi oil minister Ali Naimi that prices as low as $20 a barrel would be tolerated suggests that Riyadh -- despite some palace intrigue surrounding the poor health of King Abdullah -- is enjoying the spectacle."




"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Fri Jan 9th, 2015 at 09:44:14 PM EST
Al Naimi bullshitting again.

In my view the Saudis are pumping as much pre-paid oil as they have contracts for. Maintaining market share is a beneficial and unplanned side effect.

The outcome is that the Saudis are now settling 'oil loans' by delivering - at a time when the price is mid $40s/bbl - oil for which they were prepaid anything up to $120.

So what we see is that what were off-exchange physical long positions are now coming onto exchanges as long futures contracts. This probably accounts for spikes in the price as traders extract their toll.

If muppet investors persist in holding their position, then the increasing contango will see them pay dearly enough on monthly roll-overs for that privilege for traders to rent tankers and store oil.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sat Jan 10th, 2015 at 09:59:04 PM EST
[ Parent ]


A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Mon Jan 12th, 2015 at 12:35:56 PM EST
Gail Tverberg: This Is The Beginning Of The End For Oil Production | Peak Prosperity

What we need is cheap energy. We need cheap, liquid oil. When it's high-priced it really messes up the economy. We need oil to run our cars and to operate our trucks and such things, but it needs to be cheap. And it suddenly is today.

But, you have to be able to keep pulling it out at that same price. And the critical thing is, we can't keep pulling it out at that price. What is going to happen, I'm afraid, is that once production goes down, we won't be able to get it back up again.

There's several reasons. One of them is that very low interest rates have been helping keep production up. Once you get your interest rates back up because there's been a lot of failures, particularly in the shale industry, the costs will be higher. So, they can't pump it out for the same price that they had it before. But, there's also the issue that these old wells need to be produced continuously and they need continuous investment. If you cut that off, it's going to be very hard to restart them. So, there will need to be an extra investment just to get it back online. Trying to do that becomes extremely difficult when the price is low. If it's really an affordability issue, you've got a double hurdle then. Not only do you have to get the price up, but you have to get the price very high so you can get lots of investment dollars so you can kind of make up for lost time, besides everything else. As we know, it takes a long time to get new production online.

I think, too, that it gets to be even worse than that, because financial institutions have sold derivatives based on the assumption that things can kind of go along as normal ....

Follow the podcast, and then the two links in the text for more.

by das monde on Sun Jan 18th, 2015 at 07:18:09 PM EST
[ Parent ]
Izabella Kaminska: The SNB and the Russia/oil connection (January 15, 2015)
So what does today's move tell us? According to Derrick, mainly that the SNB probably expected quite an inflow in the weeks to come and was not prepared to provide these buyers of CHF with an artificial cheap rate.

It was not, as you might put it, prepared to bailout the world's oil/commodity value losses.

This makes a lot of sense if you appreciate that Switzerland is home to the world's biggest oil trading intermediaries, all of whom generate revenues in dollars, all of whom pay (what little tax they do) in Swiss francs, and most of whom have a mix of US dollar liabilities and Swiss ones.

What's the easiest way to get the best Swiss rate? Swap your overvalued but diminished supply of dollars into euros, and then recycle them directly into as many Swiss francs as you can, which translates into an effective tax break for your oil focused residents.

I don't buy it. Crash the Swiss stock market because you don't want people to arbitrate your EUR exchange rate cap?

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jan 15th, 2015 at 10:35:32 AM EST


A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jan 15th, 2015 at 10:37:09 AM EST
[ Parent ]
The move, given a subsequent influx of foreign money, will certainly buff up the Swiss foreign currency reserves. It wouldn't likely work were the weight of the SF in total currencies the size of the Euro, US$, JPY or Yuan.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Jan 19th, 2015 at 12:37:56 AM EST
[ Parent ]
And I know I can count on being corrected if way off base, and I will learn something. :-)

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Jan 19th, 2015 at 12:39:31 AM EST
[ Parent ]
It sort of makes sense by my limited understanding. It is quite reasonable that many folks are going to be looking for safe havens and the SF is one traditional haven. Given that, why not drop the peg so as to drop the value of the SF. Then, when money come flooding into SFs, they will go up again, but not as far as they would have without the revaluation. The Swiss stock market only represents the estimate of the value of all of the stocks traded, not the reality, and why should the CB care that much about market valuations, especially when they have good reason to expect them to rise again? Maintaining the value of the stock market index is not likely in their remit. Given the materialization of a large influx of FX into SF, Swill industry will be more competitive than it would be had they done nothing. I could care less what happens to all of the derivatives through this process. Some people will go bankrupt. But they will be financial firms, not domestic industry so much.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Jan 19th, 2015 at 12:35:13 AM EST
[ Parent ]
You have it backwards. The peg was keeping the ST lower, not higher.

Earth provides enough to satisfy every man's need, but not every man's greed. Gandhi
by Cyrille (cyrillev domain yahoo.fr) on Mon Jan 19th, 2015 at 07:21:56 AM EST
[ Parent ]
Sorry, the SF. Autocorrect...

Earth provides enough to satisfy every man's need, but not every man's greed. Gandhi
by Cyrille (cyrillev domain yahoo.fr) on Mon Jan 19th, 2015 at 07:23:26 AM EST
[ Parent ]
Nouriel Roubini: Cheap oil won't last
The economist known as Dr. Doom says that low oil prices will only last a year or two.
by das monde on Thu Jan 22nd, 2015 at 01:54:52 AM EST


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