The Future of the Futures Market

One factor in determining why we have high oil and gas prices is how drunk oil investors are. No joke. It was recently found out that a drunk broker who worked for the UK-based PVM Oil Futures was responsible for single handedly raising the price of oil to an 8 month high in 2009. During an “alcohol induced blackout,” senior broker Stephen Perkins traded about 7,000,000 barrels of oil worth about $520 million at the time. This caused the price of a barrel of oil to increase by $1.50. The Daily Caller notes:

Perkins ultimately purchased 69 percent of the global market between the hours of 1:22 a.m. and 3:41 a.m. causing the price of oil to jump $1.50 per barrel… The global barrel price went from $71.40 to $73.05, as Perkins bid higher and higher each time.

$1.50 may not seem like much, but those experienced with oil futures contracts say that that kind of a jump in oil price usually only happens when an extreme geopolitical event happens. The spike in oil price was quickly followed by a rapid fall and cost PVM Oil Futures nearly $10 million. This resulted in Perkins getting canned by PVM and being investigated by the Financial Services Authority who fined him and barred him from trading because he “poses an extreme risk to the market when drunk.”

You don’t have to be drunk (with alcohol) in order to make these kinds of decisions. Part of the reason we have high gas prices and high oil prices is because of speculators who bid up the price. This is how they make money. An oil future is a contract between a buyer and a seller where the buyer agrees to purchase oil for a specified price on a specified date in the future, usually months or years ahead. Josh Clark of HowStuffWorks.com explains:

Futures offer a way for a purchaser to bet on whether a commodity will increase in price down the road. Once locked into a contract, a futures buyer would receive a barrel of oil for the price dictated in the future contract, even if the market price was higher when the barrel was actually delivered.

And that would be the goal of the futures investor. If he’s able to predict accurately that the price of oil will increase in the next few months, then he would be effectively buying the oil at a discount when he’s contractually obligated to buy it. Then, he could trade with someone else at the current market value and make a profit. This cycle keeps going on, and the price keeps creeping up.

This is partly why there is an incentive to keep oil prices up and rising, because it makes the Wall Street traders money. And this is also why Wall Street likes the Fed’s quantitative easing policies. As soon as prices start to drop, the traders need another shot of easy money and credit to boost the markets up so that traders continue to profit. But recent Fed actions haven’t helped like they used to. Forbes reports:

When the Fed did indeed announce its QE3 program, it was widely expected that commodity prices, including oil prices, would surge higher as they did after QE2 and Operation Twist. But it didn’t happen, at least not yet. Instead, over the last two weeks the CRB Index of Commodity Prices has declined 5.5%, and oil has plunged 11%, from $100.40 a barrel two weeks ago to $89 a barrel this week. It has traders scratching their heads.

So maybe we’ve reached the point of no return where too much money was printed and too much credit was extended, and it’s too late to turn things around. Too many have benefited from the Fed and have grown dependent on it to bail them out when times got tough. But now, it’s not working anymore. Is the addict dying from the overdose, or is he already dead?

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