forums : General Discussion

How does the oil commodity market work?

The article below is called "Drilling off shore oil" and was originally posted here: http://www.thisisby.us/index.php/content/drilling_off_shore_oil

I found it VERY informative, and while I disagree with some of the viewpoints expressed here, it does an AMAZING job of explaining how the commodities market (oil in particular) works and how political parties are counting on Americans not knowing how this works so they can make a bunch of empty promises about reducing gas prices and "dependency on foreign oil".

Drilling off shore oil
by Tom Joad

Recently a friend of mine sent me the following e-mail:

I am a firm believer that to solve our energy problems in our great nation we need to tap all current available resources and also invest in future technologies. One of the resources that our Government is currently unwilling to tap is our vast oil supplies off the cost of California and Florida and in Alaska's Arctic National Wildlife Refuge (ANWR).


I have joined more than 1.4 million Americans who have signed the Drill Here, Drill Now, Pay Less, petition on AmericanSolutions.com because to lower gasoline prices and reduce our dependence on foreign oil, we need real solutions to our energy challenges.


I hope you will sign the petition as well. Please sign the petition today at: www.americansolutions.com

What follows, with some modifications, is my response to that e-mail.

Oh, now you've done it. Get ready for a Tom Joad Tirade. I read, I listen, I research, and I pay attention. That is in part because I have no life. That means that I have the time to check this stuff out whereas most people don't.

What I'm about to lay on you is the gospel truth and I can back up everything I say. If you have any questions about any of it I will direct your attention to my sources of information and you can judge for yourself.

In the first place the entire premise of this petition is faulty in that even if we do drill off our coasts it will not necessarily increase the availability of oil in this country. That is because oil is a commodity that is sold on the open world market. Any oil we drill is just as likely to end up in China or India as here. For example, most of the oil we now pump out of the ground in Alaska does not come to the lower 48. It is shipped to Japan.

This petition also claims as its motive to lower the price of fuel. Well, let's look at the factors that effect the cost of a barrel of oil and gasoline.

First of all of course is the law of supply and demand. This is the one factor this petition aims to alter in our favor. While it is true that demand for oil has increased for emerging economies such as are found in the aforementioned India and China, that demand has not increased by more than the 30% that the cost of gasoline has gone up in the last year. China, India, Russia and the Middle East consumed crude oil at an increase of 4.4 percent over that same period of time, according to the International Energy Agency in Paris. And currently the world has ample supplies of oil. Compare the current situation with what happened in the 70's and 80's when Saudi Arabia decided to turn off the taps and we found ourselves in long lines at the gas stations. We are not queuing up for gas as we were in those days now, are we?

So what other factors were there that did make the cost go up? One thing is the strength of the dollar. Oil is traded in dollars, not Yen or Rubles or Euros or some other currency against which the value of the dollar is measured. Therefore as the value of the dollar has plummeted, as it has under the current administration, the cost of oil relative to those other currencies rises. If the dollar were worth twice than what it is in the currency market then the price of oil would automatically be cut in half. Therefore in order to decrease the cost of fuel for Americans a good place to start would be to shore up the value of the dollar. That would go much further in bringing down the price of oil than any amount of drilling could do.

Let us return for the moment to the idea that oil is a commodity that is sold openly on the world market. As a commodity it is subject to trading by speculators. Speculators gamble on the future cost of a barrel of oil and they do so without having to actually buy or take possession of any oil. Because oil is sold as a commodity only a small percentage of the cost is due upon purchase. The way it works is this. Say oil is currently at $110 a barrel. As a commodity futures trader I think that the price will go up so I buy it now and promise to pay for it at some future date. Then when the price goes to $130 a barrel I sell it before the bill comes due for my purchase at $110 a barrel, and when it does, I hand over the $110 pocketing the extra $20 for myself.

Currently there is no regulatory control over this trading. That is in part because it is not even done in this country. It is dealt through a company called IntercontinentalExchange, or ICE as it is known on the stock exchange, and this trading house is located in London. The trading of oil is completely and entirely out of our hands.

Therefore while the cost of a barrel of oil is somewhat set by OPEC (Organization of Petroleum Exporting Countries) the actual cost to the consumer is not controlled by them but by the speculators. It is OPEC that dictates the starting bid on the cost of oil, the minimum below which they will not sell their oil. But more importantly for the laws of supply and demand it is OPEC who control the volume of how much oil will be extracted from the ground and at what rate. Since we are not a member of OPEC we have absolutely no say in any of this either. Who are the members? Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, United Arab Emirates, and Venezuela.

More on that later, but I can't help mentioning the fun fact that gas is currently selling in Venezuela for 12¢ a gallon. They don't have to deal with speculators.

Here's the bottom line when it comes to speculators that trade oil through ICE. No matter how much oil we drill here in the United States it will STILL be ICE and NOT our country who will determine the cost of a barrel of oil. THEY will decide what happens to all the oil we pump out of the ground here, not us.

But let us fantasize for a moment that every drop of oil that we pump out of our soil would stay here in our own country and under our control. If we could extract all the oil currently thought to be under our shores in one moment and start using it tomorrow, it would last us at our current rate of consummation for only slightly over two years. But for some reason Americans now by an overwhelming majority favor our drilling for oil off our coasts.

We always tend to seek simple answers to complex problems and this seems like a simple way to go. But is it wise? We know from past experiences that even a small spill can cause enormous ecological problems. Witness the Exxon Valdez. Granted that disaster was not caused by an oil spill from an off shore drilling rig but it was only one tanker full of oil and 20 years later we have still not recovered from the damage done to Prince William Sound.

I should also mention at this juncture that by most estimates if we were to lift the moratorium on drilling off our shores tomorrow it would take at least ten years before we saw the first drop. This is in part because the companies that specialize in building off shore rigs are over booked for new construction and are already producing them as fast as they can. But it is also because of course the exploration for the best places to drill for the oil that we think is there needs to take place first, and this is a time consuming process to say the least.

Let us return to the subject of supply and demand for a moment. There is no doubt that the cost of oil, or I should say what the speculators are willing to buy and sell it for, directly affects the cost of gas at the pump, but that is not the only factor. It is also our ability to turn that oil into gasoline which drives the prices. Currently all the oil refineries in this country are operating at over 90% capacity. That means that they can't practically turn any more oil into gas at a greater rate than they are now, yet the oil companies are disinclined to build any more refineries. Why? It should be obvious. If they were to turn more oil into gas quicker and in greater quantities than they are now then by the law of supply and demand the cost of a gallon of gas would be driven downward. Why in the world would the oil companies want to do that?

Returning to the matter of granting off shore leases to our oil companies, it should be noted that our oil companies are currently not exploiting something like 82% of the leases they currently hold, some of them off shore leases. Why is that? It is because the stock value of any oil company is not computed by how much oil they remove from the ground but rather by how much oil they own that is still in the ground. As the oil is pumped out the value of that company is reduced proportionally by the amount removed, even as they profit from the sale of that oil.

Our government recognizes this paradox and as a result oil companies are granted what is known as an oil depletion allowance on their taxes. Paradoxically the more they pump and sell the bigger the tax deduction they are allowed to take on the profit from that sale. Even so it is not in their economic interest to pump out any more oil than they need at any given moment. To do otherwise would again increase the supply and therefore bring the price they enjoy per barrel downward.

Ironically because of this the lifting of the moratorium on the leasing of off shore oil fields would not necessarily mean that any oil would actually be produced from these wells or that the wells would even be built. The only people who benefit from having the moratorium lifted would be the oil companies who would buy up these leases and then be able to add those reserves to their portfolio thus improving the stock value of their company. They wish to take public land and put it into private hands not for the benefit of the American public but for private profit.

Now then, let us discuss the OPEC nations again. These are the countries that hold the most oil on their lands. They read like a Who's Who of countries to whom we would rather not be sending our wealth, so this has becomes a scare tactic and the very phrase "foreign oil" become fighting words. But of all those countries which of them do we import the most oil? It is a trick question. By far we import most of our oil from Canada. That's right, Canada.

We also import vast quantities from Mexico but to be fair and honest the country that we import the most oil from after Canada is Saudi Arabia and they are the country with more oil than any other. Russia also has lots of oil and their newfound wealth and power resulting from the world's thirst for oil has emboldened them to strive to become what they once were, the invasion of Georgia only the beginning. The more oil we hunger for the stronger they get.

Another factor that increases the cost of oil is strife in the lands where it is produced. Wars are fought over these lands because of oil, and because of war in these lands the price goes up. It is an insane equation that makes about as much sense as killing to stop the killing, or suspending our civil rights in order to protect them.

Oil is not the solution. Oil is the problem. What we should be concentrating on is not looking for more oil. We should be investing in seeking alternative sources of energy so we will no longer need to.

I have stated that currently there is no shortage of oil and there isn't. But this will not always be true. It is a nonrenewable source of energy. No matter how much we conserve eventually it will run out. We need to be looking into developing alternative sources of energy now, not drilling for more oil and not just because we are tired of high gas prices. Burning carbon-based fuel is a major cause of global warming. We are slowly but surely killing our planet by burning fossil fuels and the sooner we stop doing that the better.

One more thing about the supply and demand aspect of the price of oil. This administration has failed to increase the CAFE standards. CAFE standards, short for Corporate Average Fuel Economy, dictate the number of miles per gallon that an automaker should get for the range of vehicles it sells. By not demanding that our auto manufacturers work to increase the mileage that their cars can achieve two things have happened. We are burning fuel far faster than we need to and our auto manufacturers are going broke because nobody wants to buy their gas guzzlers any more, putting tens of thousands of auto workers out of a job.

But let's get back to that petition that you signed. Who is behind it and why? Newt Gingrich. Why is he pushing for this? His reasons are two-fold. One is that republicans have always been in bed with the oil companies. The current president and vice president are both oil men, as was the president's father. Lifting the moratorium will not help you but it will make the rich richer.

But the real reason is not because Gingrich expects this congress to lift the moratorium. He is in fact hoping that it doesn't. The real reason is because the republicans have found an issue upon which they can run. They can't claim economic prosperity, at least not for the average voter. According to Federal Reserve Bank data the top ten percent of the U.S. population now owns 81.8 percent of the real estate, 81.2 percent of the stock, and 88 percent of the bonds.

They can't run on success in Iraq although McCain is trying his best to do that. The war is five years old and has now lasted longer than any war we have ever engaged in with the exception of Vietnam, and this enemy is not one with a superior army, navy, or air force. It consists of a bunch of guerrilla fighters who are defeating us with improvised roadside explosives and suicide bombers. We can't tell friend from foe and both designations are moving targets switching from one to the other according to what they personally stand to gain or lose from being either. Their loyalty will never be to our cause and why should it?

We should never have invaded Iraq in the first place. But the point I am trying to make here is that this administration has bungled the operation of this war right from the first day of the invasion.

They can't claim competently managing our country in any way from the ecology, the energy crises, Katrina, poverty, home foreclosures, and on and on. When Clinton handed over the reins of our government to Bush we had a surplus of 230 BILLION DOLLARS. Our federal deficit, in the hands of the so-called fiscal conservatives, now stands at a staggering 9.5 TRILLION DOLLARS!

There is absolutely nothing the republicans can point to as a positive outcome of their administration over the past nearly eight years. So they trounce out the issue of drilling off shore challenging the democrats to fight this ridiculously bad idea knowing that the majority of Americans are going to buy into this big lie and blame the democrats for not letting it happen. By doing so they hope to propel another republican into the White House.

The high cost of gasoline can be attributed to five causes.

1) Supply and demand--and there is not enough oil off our shores to make a significant difference in supply.

2) The weakness of the dollar

3) Unregulated oil speculators.

4) Unwillingness of oil companies to exploit the leases they already own.

5) Unwillingness of oil companies to build new refineries.

Drilling for oil off our shores will however do the following.

1) Delay the motivation to find alternative sources of energy.

2) Risk ecological disaster.

3) Allow for more fossil fuel to be burned which will increase global warming.

4) Put billions more of our dollars into the hands of wealthy oil men.

5) Play into the hands of the republican political machine.

The choice is really yours. But I suppose it is too late to retract your signature from that petition now even if you wanted too. I think I can say with confidence that there is no mechanism on their web site that would allow you to do so. That would not be in their interest either.

If what I have said here has not convinced you that ending the moratorium on off shore drilling is wrong than so be it. You are entitled to your opinion and I respect that. But if it has I would ask that you now write to all those to whom you have sent that message and tell them that you have had a change of heart and warn them not to fall into the same trap.

And I thank you for reading this message if you have made it this far.

Re: How does the oil commodity market work?

Bump. (Did you notice the part that says Venezuela pays 12 cents a gallon for oil? Every American should know how this works!)

Re: How does the oil commodity market work?

"Oil is not the solution. Oil is the problem. What we should be concentrating on is not looking for more oil. We should be investing in seeking alternative sources of energy so we will no longer need to."

Amen ^^^


However, I have to say yet again, isn't it interesting that the price of oil is dropping right before the election. I am a damn Nostradamus! Especially when we just passed a bailout plan that will drop the value of the dollar (which as he says will raise the price of oil).

Apparently an election involving a big-oil supporting canidate trumps all wars in the middle east and a dropping dollar combined.

Re: How does the oil commodity market work?

Cash flow is always king, and making money when oil & natural gas prices are going up, and to be able to do so while not having to sell your working interest ownership to make a profit, is a chief advantage of investing in only the most successful of the developmental, and exploratory oil & gas drilling prospects being offered to private & industry investors today...
For more information visit: http://www.lincenergy.us

Re: How does the oil commodity market work?

Dude needs to cite his sources. His conclusions are based on shaky premises and his "I have time to research this stuff, so believe me" argument would be invalid under any sort of critical evaluation.

There is enough information about Global Warming that both perpetuates and disproves the theory that you'd have to be foolish to accept it as fact...

for example, check out the works of a co-contributor to the site I write for, NASA scientist Dr. Michael Asher:

http://www.dailytech.com/Alaskan+Glaciers+Grow+for+First+Time+in+250+years/article13215.htm
http://www.dailytech.com/How+to+Reduce+Pollution+by+Drilling+for+Oil/article12810.htm
http://www.dailytech.com/article.aspx?newsid=12277
http://www.dailytech.com/Australian+Researchers+Warn+of+Global+Cooling/article12250.htm

and his big hit:
http://www.dailytech.com/Researcher+Basic+Greenhouse+Equations+Totally+Wrong/article10973.htm

In any case I don't consider myself an activist in this whole global warming fact/theory/myth/scare, mainly because both sides are screaming way too loud that they're right. One of them is not, but nobody wants to figure out which. I'm not an authority on the subject by any means... but there is so much junk science and poor arguments bolstering the Global Warming cause that I am tempted to write off GW simply because its largest backers are incompetent.

Re: How does the oil commodity market work?

Ignore the stuff about GW, but do pay attention to the way the oil commodity market works. That's why I posted it in the first place.

I tend to agree with you about GW, and I work for an environmental consultant. Studying the history of global climate shifts (e.g. the mini Ice Age) pre-Industrial Revolution, as well as the solar cycle (which includes periods of increased flaring that lead to greater temperature increases in the solar system - if memory serves correctly, this is happening on a solar-system-wide basis), not to mention NASA's faulty data that was used to "prove" that 1998 was the hottest year on record until someone pointed out a fundamental data error (NASA then corrected the error but failed to announce it, as if it wasn't a big deal, although the change shifted the hottest year on record to 1934), all yield a fair bit of support for your perspective, and provide the basis for why I'm with you on this. Here's an article on the latter:

http://www.ocregister.com/ocregister/opinion/nationalcolumns/article_1804986.php

In addition the scientific basis for the Kyoto Protocol is pretty flawed (will find some links if you're interested in my support for this assertion), and given the number of energy companies that support all of this - which, like the bailout, amounts to a huge burden shift from the corporate entities that have supposedly created the pollution to consumers and small businesses - I have even less reason to trust it.

Of course, far be it from me to say we needn't change our ways. What we do the planet at present is absolutely disrespectful and wasteful. But there's no reason to stir up a bunch of propaganda and fear along the way.

I think the truth lies somewhere along the median, outside the realm of politicization, big money/big science, and hysteria. For example: Yes, climate change is occurring, but that's been happening throughout the entire life of the planet and is not man-made. Global Warming may have some legitimate basis, but as you mentioned, alongside record melting there's also been record re-freezing that goes completely unreported. And we do need to change, but people have been calling for change for a long time - since the photovoltaic panel craze in the 1990s, at least, not to mention the demand for completely electric cars like the EV1, which was immensely popular amongst those who were able to test them (see the documentary "Who Killed the Electric Car?") - so for industry to be supporting this now at the expense of citizens is completely unethical, unjustified, and unfair.

**********
According to luciphercolors ...

Dude needs to cite his sources. His conclusions are based on shaky premises and his "I have time to research this stuff, so believe me" argument would be invalid under any sort of critical evaluation.

There is enough information about Global Warming that both perpetuates and disproves the theory that you'd have to be foolish to accept it as fact...

for example, check out the works of a co-contributor to the site I write for, NASA scientist Dr. Michael Asher:

http://www.dailytech.com/Alaskan+Glaciers+Grow+for+First+Time+in+250+years/article13215.htm
http://www.dailytech.com/How+to+Reduce+Pollution+by+Drilling+for+Oil/article12810.htm
http://www.dailytech.com/article.aspx?newsid=12277
http://www.dailytech.com/Australian+Researchers+Warn+of+Global+Cooling/article12250.htm

and his big hit:
http://www.dailytech.com/Researcher+Basic+Greenhouse+Equations+Totally+Wrong/article10973.htm

In any case I don't consider myself an activist in this whole global warming fact/theory/myth/scare, mainly because both sides are screaming way too loud that they're right. One of them is not, but nobody wants to figure out which. I'm not an authority on the subject by any means... but there is so much junk science and poor arguments bolstering the Global Warming cause that I am tempted to write off GW simply because its largest backers are incompetent.
**********

Re: How does the oil commodity market work?

BTW I do think some of what Steyn says in the article expresses that he's bought into some neoconservative spin (if he's not spitting it out on purpose), especially the perspective that America is more or less the greatest thing ever and not an imperialist nation.

But, as with a lot of what goes reported, it helps to ignore the obvious biases of the reporter and pay attention to the people, statements, and actions covered. Follow the trail on Steve McIntyre (the guy who exposed the data inaccuracy) if you're seeking less biased presentation.

I do like this excerpt from the article though. Cheeky.

"Something rather odd happened the other day. If you go to NASA's Web site and look at the "U.S. surface air temperature" rankings for the lower 48 states, you might notice that something has changed.

Then again, you might not. They're not issuing any press releases about it. But they have quietly revised their All-Time Hit Parade for U.S. temperatures. The "hottest year on record" is no longer 1998, but 1934. Another alleged swelterer, the year 2001, has now dropped out of the Top 10 altogether, and most of the rest of the 21st century – 2000, 2002, 2003, 2004 – plummeted even lower down the Hot 100. In fact, every supposedly hot year from the Nineties and this decade has had its temperature rating reduced. Four of America's Top 10 hottest years turn out to be from the 1930s, that notorious decade when we all drove around in huge SUVs with the air-conditioning on full-blast. If climate change is, as Al Gore says, the most important issue anyone's ever faced in the history of anything ever, then Franklin Roosevelt didn't have a word to say about it."

Re: How does the oil commodity market work?

just curious about what your take is on Dr. James Hansen.
is his testimony bogus?

James Hansen appeared on 60 Minutes stating that the White House edited climate-related press releases reported by federal agencies to make global warming seem less threatening.[20] He claimed that he was unable to speak "freely", without the backlash of other government officials. "In my more than three decades in the government I've never witnessed such restrictions on the ability of scientists to communicate with the public."[20]

http://en.wikipedia.org/wiki/James_Hansen


Personally I believe we have had a huge impact on nature and on the earth itself. Global warming and cooling is probably part of a natural cycle but at the same time I cannot ignore the fact that our actions are and will continue to have some sort of effect.

Re: How does the oil commodity market work?

"Some sort of effect", sure. But if the science going into "proving" global warming is so flawed, and all attempts at keeping the discussion open are basically stonewalled - it makes it seem a lot like what people who have issues with the official 9/11 story are going up against, and what the disenfranchised Florida voters went up against, just to name a couple examples. And if even NASA was wrong, as shown in the article I linked above - which changed the hottest year on record to 1934, not 1998 - how are you supposed to trust any federally funded resource as the Bible truth on all this?

You simply do not hear solid conflicting arguments - you hear a lot of supposedly scientific s**t from the Al Gore camp, and a lot of stupid neoconservative assholes saying "that's wrong because Al Gore is a Democrat", more or less.

Global warming and cooling are not *probably* part of a natural cycle - if you study historical climate patterns, even preceding the industrial revolution, they are *obviously* part of a natural cycle. This is partially exacerbated by the existence of nuclear energy & weapons stockpiles, as revealed by Walter Russell and his wife Lao in the book "Atomic Suicide?" - which shows that when unearthed, unstable particles (such as uranium) ultimately lead to the destruction of oxygen and, later, natural ecosystems.

Natural ecosystems have a lot to do with the climate of a given region; to give an example, areas in which storms are frequent usually seem fairly capable of weathering those storms until you start destroying the habitat. In the case of Hurricane Katrina, the Army destroyed natural sandbars that would have buffered the shoreline against the impacts of a hurricane, replacing them with concrete infrastructure that was insufficient to protect the region; this was reported in Time magazine, but I never heard it mentioned anywhere else...

Trees and other plantlife offer shade and help regions to retain moisture and oxygen-richness... the Sahara Desert was at one time thriving and green.

http://www.redorbit.com/news/science/1574319/sahara_desert_was_once_green/index.html

Basically, my perspective on James Hansen is: very infrequently do I trust information brought to light by the mainstream media or big money, and the latter naturally funds the former. In Hansen's case, I think it's a bit of a ruse - to make it seem like the public needs to depend on big science for information. The information is all out there, and we ought to know better than to accept anything we haven't researched personally. Accepting something as truth blindly is irresponsible, and while there may be something to what he says, it has to be balanced out with information on all sides.

Not-so-basically, I believe he is a shill for George Soros. See the following story for some information about how Soros is a major financial backer for James Hansen.

http://www.newsbusters.org/blogs/jake-gontesky/2007/09/26/global-warming-alarmist-james-hansen-shill-george-soros

To give you some information on George Soros (Gyorgy Schwartz): he is a Hungarian billionaire who bankrolled the Rose Revolution in Georgia, which led to Sakaashvili's "presidency" (aka dictatorship). Sakaashvili has openly called for a New World Order, and was the instigator in the invasion of South Ossetia. Soros has stated that he wants to destroy independent society, backs MoveOn, and also backs (I think he still does, anyway) Zbigniew Brzezinski, the man who was responsible for the Taliban coming to power.

Soros' s**t stinks - a LOT. I don't trust anyone he funds. That includes Obama, via MoveOn (which fully supported him) and Brzezinski.

**********
According to moai33 ...

just curious about what your take is on Dr. James Hansen.
is his testimony bogus?

James Hansen appeared on 60 Minutes stating that the White House edited climate-related press releases reported by federal agencies to make global warming seem less threatening.[20] He claimed that he was unable to speak "freely", without the backlash of other government officials. "In my more than three decades in the government I've never witnessed such restrictions on the ability of scientists to communicate with the public."[20]

http://en.wikipedia.org/wiki/James_Hansen


Personally I believe we have had a huge impact on nature and on the earth itself. Global warming and cooling is probably part of a natural cycle but at the same time I cannot ignore the fact that our actions are and will continue to have some sort of effect.
**********