The Numbers in the Crude Oil Market

David Stockman was interviewed this week about the “Inside the Beltway” budget wars. His remarks were enlightening, entertaining and, perhaps, a little disquieting. This is well worth watching: http://finance.yahoo.com/blogs/daily-ticker/david-stockman-deficit-reduction-flimflam-swindle-taxes-must-134716994.html

What’s up with crude? Prices, of course. The funds dramatically increased their long holdings beginning in mid-February, which was when rebellion broke out in Libya. The questions one might ask include, “What is the ratio of fund longs to fund shorts, what are ‘normal’ ratios, and what fraction of the total position do the fund hold?”

The first category is that of producers and refiners. Without speculators, the entire market would consist of producers and refiners. Heating oil futures and gasoline futures would create the link between refiners and end user/distributors. The refiners-producers account for 42% of the total market. The producers are short nearly twice as many contracts as refiners are long, roughly 100 short contracts for every 57 longs.

Next are “Swaps,” meaning large banks who are allowed to use the regulated futures markets to hedge positions they take for clients in the unregulated, non-transparent, over the counter market. This should remind you of the wonders of the unregulated mortgage swaps and other derivatives that did such a great job of making tax-payers in most developed countries bail out the over-paid and under-regulated large banks who made billions before the market tanked from the excesses the banks generated. The banks are 29% long and 32% short, but we really don’t know what that means because we can’t backtrack the exposures in the OTC markets. Swaps account for a whopping 31% of the total market.

Funds, the next category, show up as responsible for 17% of the market, but I have to wonder how much of the long swap market they also account for. My guess is nearly all. If so, the funds, either directly or indirectly, control some 48% of the market. The funds long to short ratio is 865 long contracts for every 100 shorts. Something is terribly wrong here. The non-fund speculators of size are almost even in their betting: 97 long contracts for every 100 shorts.

Doing a bit of arithmetic, Fund net long positions plus Bank shorts equals 679,064 contracts. That means Funds control 59% of all long positions. That also means the funds are contracted to take delivery of some 679 million gallons of crude. That’s a lot of oil. The rest of the story is refiners have bought only 30% of the total long positions, thus 70% is in the hands of speculators, and only 11% is in the hands of trading speculators rather than… should we call them “manipulating speculators?” … the funds.

I remarked yesterday that the Saudi economists claim the supply/demand equations show the fair market price for crude to be in the range of $70 to $80 per barrel, not the current $110 to $115 per barrel. Do you think the funds will take delivery of the 679 million gallons of crude? Or do you think they are just trying to use financial power to replace supply and demand?