Is the price of oil being artificially boosted again by speculators and investors?

Driven to dizzying heights near $150 in 2008 during the recent bubble, oil has fallen to the $40-50 per barrel range, due to the U.S. and global recession. The New York Times (NYT), in an interpretive report published Thursday, wonders why this is the case, given slack demand.

The Times, questioning why oil is not at $20 per barrel given the universal slump in demand amid the first global recession since World War II, cites analysts who say oil is once again being sought by investors as a refuge against a potentially slumping dollar and rising inflation. Oil rose 50 cents to $49.35 per barrel in mid-day Thursday trading.

Another factor: OPEC supply cuts


Another factor supporting oil's price: OPEC, which has displayed unusual discipline in a downcycle and successfully reduced output, The Times reported. Historically, OPEC has announced production cuts, only to see hawkish members 'cheat' and produce more oil than their quota, which has limited the price-support effect. This time, OPEC has successfully taken 3.5 million barrels per day (bpd) off the market since September 2008.

Antoine Halff, head of energy research at Newedge USA LLC in New York, agreed that the primary factor affecting oil prices now is investor demand, not the oil supply / demand dynamic.

"Prices aren't really supported by the fundamentals," Halff told Bloomberg News Thursday. "We are seeing demand for oil on paper, not physical supply. Last year investors were looking for yields and this year they are looking for safety."

The facts don't lie, but . . .

Short-term, it's hard to refute the hard data that points to investor / speculator influence. Oil has basically traded in a $40-50 range despite the fact that U.S. gasoline demand is down on a year-over-year basis, U.S. oil inventories are at their highest levels since 1990, and global oil demand is sagging: the International Energy Agency expects global oil demand to fall -2.8 percent to 83.4 million bpd, it's biggest decline in more than two decades.

"Investors have come back, yes, but not in a huge way," Roger Diwan, a managing director at PFC Energy, a consulting firm, told The Times.

Time to speculate in oil futures?

So is now a good time for investors to start piling into oil futures and other oil-related plays? Absolutely not, so says Energy Trader Jim Dietz, who argued "if you're not already in a quality, integrated oil company, now would not be good time to establish a position." That's because "the run-up money has already been made in oil," in Dietz' interpretation.

Further, Dietz argued that a $50 oil price amid a global recession, falling demand, rising inventories, and little sign that demand will reverse soon, represents a contradiction that must be resolved soon.

"One of two things has to occur. Either demand has to increase or the price of oil has to fall," Dietz said. Dietz has calculated that the price of oil will fall, and is short-oil, with numerous futures contracts. He expects oil "to re-test lows below $40 by mid-year."

Further, Dietz said the dollar, a weakening of which would further boost oil prices, is not likely to register a large decline. If U.S. economic conditions remain weak, the dollar may fall some, he said, but it will not collapse, as some theorize, because other major currencies (euro, British pound, Swiss franc) will fall as well.

"Given the state of the global economy, oil at these price levels makes little sense," Dietz said. "Reality will reappear soon."

Oil Analysis: It appears institutional investors have had some fun with oil with the rise from $33 to $50, but if Dietz is correct, that rise has been Pyrrhic. The counter point to Dietz' view argues that oil will rise further on U.S. inflation fears. But how does inflation appear in U.S. and global economies struggling with oversupplies nearly everywhere, with little pricing power, and amid signs of deflation? It can't, Dietz says, which reinforces his argument that unless global oil demand suddenly rockets higher, there's way too much oil sloshing around for a $50 oil price.

Dietz added that no typical investor should speculate with oil futures, given the oil market's complexity and high risk.

Financial Editor Joseph Lazzaro is based in New York.

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