$220 Oil?

It was just two short months ago...

We were coming of the holiday high and I suggested $150 oil by June of 2011.

Very few agreed with the suggestion at the time.

Today, I'm back to cattle prod you about it.

As Saudi Arabia's predicted Day of Rage approaches, options traders have been buying $200 call options on oil like mad men over the past two weeks.

With April delivery crude rising to $105.44 on the New York Mercantile Exchange yesterday, the light sweet stuff is up 29% from one year ago and is at its highest point since September 26, 2008.

This time around we are not dealing with congestion issues at Pershing, (SB to the first monkey to explain what I am alluding to) but with our age old fiendish friend... MENA instability.

In a more detailed and disturbing report Nomura predicts prices booming to $220 and completely derailing the nascent global recovery.

I can just hear the oil traders among us licking their lips and rubbing their palms together. Calm down guys, dinner's about to be served.

But what does this mean going forward?

Equally as important, do you buy oil going that high?

I am getting to that point where I have been around long enough to longer be surprised.

By anything...

I recall some grizzled traders telling me that $100 oil was a pipe dream in 2003...and this was with the Iraqi Freedom looming.

I also hear people saying that gold cannot possibly go any higher every other week for the past five years...yet, somehow it does.

Tell me where you guys see oil prices going.

Let's set the horizon somewhere between the September 2011 and January 2012 contracts...

Lastly, if anybody sunk their teeth into same barrels a few months back...

Here's your chance...

To gloat.

Comments (28)

Mar 8, 2011

Oil producers can simply increase output to make up for any losses caused by the current volatile situations across the globe. While OPEC certainly continues to wield tremendous power it is not the power that it once was. Anything above $120 sparks further investment in alternative energy, which I support so that we dont have to rely on a bunch of countries who generally despise western culture. We may see $150 max but no way we break $200 as too many countries risk stifling their fragile economies as consumers would be forced to spend $5+ a gallon.

If many of these countries didnt sit on vast oil resources they would be nothing more than desolate sandboxes that no one wanted to play in.

Mar 8, 2011

Not entirely true JBS...

Oil above $200 implies the following... There has been enough oil producering countries knocked out of play that Saudi Arabia's excess capacity is not going to cut it entirely. I'm forgetting the numbers SocGen had, but Dylan Grice made a very important distinction that I tend to agree with him on. You won't be hurt with oil about 120... at 150 it becomes harder to manage and above 200, it's a systematic risk reminiscent of the oil shocks from the 70s, leaving us with very few options in terms of covering our petrolium needs (Hempoline maybe? Open up the ANWAR?).

Unrest in the Middle East and further disruption of oil producers up to the point where Saudi Excess Production Capcity is filled is the biggest concern we have regarding $200 oil. We'll see what the Saudi Revolution brings as well as how Mediteranian Africa's oil production holds up in the coming weeks, and that is what will determine how Oil moves. I can't wait to see how this one plays out.

Mar 8, 2011

Mmmm, we're pretty close to running out of spare capacity if you take Libya and parts of Algeria out of the picture.

$150 oil is certainly a possibility. I can't rule out $220/barrel by next year, but I'm putting the odds under 5%. When you hit that level, $150/barrel covers a lot of extraction costs. GTL and CTL become possibilities. Shale oil exploration comes into play even more and it means a bonanza for the Athabasca oil sands.

We are swimming in natural gas. If oil prices get high enough- and look like they're going to stay there- we can always go with GTL. Long-term, the economy can do just fine running on GTL as we slowly transition to renewables and nuclear.

For next year's oil prices, I figure a lognormal distribution with n=$120, s= +/- 41.4%. $220 is certainly within two standard deviations, but we could also easily see $65/barrel if there is a serious prospect of GTL in the next five years, if there is another economic crash, if China descends into chaos, or if we find a couple more twenty billion barrel offshore elephants like we did in the Gulf and off the coast of Brazil a few years ago (the largest discoveries in 35 years).

One thing that I've been throwing out to my friends when they've been asking for investment ideas is that they've got a comparative advantage on risk when buying into oil companies in the same way that people have paying down credit card debt. Credit card debt means that you're intrinsically short high yield debt- but you know you're going to pay it back if you've got any assets- so you take your savings and invest in that first. You've got a comparative risk advantage.

In the same way, most consumers outside New York are intrinsically short oil- even New Yorkers who travel via air a fair amount are negatively exposed to oil. So some people can probably buy a few grand worth of oil stocks which are implying 9-11% pre-tax returns and actually be happy when they lose value- because you are paying less at the pump.

The same is also true of other moderately commoditized stuff we need to use every day- like real estate and utilities.

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Mar 8, 2011
IlliniProgrammer:

In the same way, most consumers outside New York are intrinsically short oil- even New Yorkers who travel via air a fair amount are negatively exposed to oil. So some people can probably buy a few grand worth of oil stocks which are implying 9-11% pre-tax returns and actually be happy when they lose value- because you are paying less at the pump.

I've been thinking about this a lot over the last few years. You hear all sorts of theories about where oil is going, but no matter where you think it will be, something can be said for hedging your own consumption.

Mar 8, 2011

By GTL, IP means Gym-Tan-Laundry, not gas to liquid.

Mar 8, 2011
<span class=keyword_link><a href=/finance-dictionary/what-is-london-interbank-offer-rate-libor rel=nofollow>LIBOR</a></span>:

By GTL, IP means Gym-Tan-Laundry, not gas to liquid.

Ahh you beat me to it

Mar 8, 2011
Mar 8, 2011

When Saudi Arabia has to come out and start denying stuff, you know it's bad:

http://finance.yahoo.com/news/Saudis-say-shortage-...
On second thought, I am starting to agree with Midas. I figure there's a 30-40% chance we're going to $140 this summer. I don't think it will have the same negative impact on the economy as it did three years ago with a couple years of inflation and energy intensity reductions built into the system (new cars are, on average getting 15% more mileage than just three years ago), but it will still hurt.

That said, with where we sit on the supply/demand curves, there's a lot of vol. 6 million barrels of spare capacity with moderate production costs could cause oil prices to plummet to $65-75/barrel.

Mar 8, 2011

$220 oil will not happen any time soon. If it did, the world economy would collapse.

Mar 8, 2011

$220? naw...
In today's oil market, it's really the demand side of stories dominate the physical price. Futures price has its own legs and like to run away from reality, but sooner or later it will return to fundamental...
DEMAND DEMAND DEMAND...
China, India, Brazil... what do I hear... "Inflation!" That means monetary tightening and fiscal tightening. China has already rise rates and reverse requirement a few time just 3 monthes into the year! India, and south east aisa has even severe inflation problems. In US, Cushing stock is at capacity. Economy has not get much better almost 2 years after the peak of crisis, and facing the possibility of import induced inflation, due to weak currency and inflation in producing countries. Motor gas demand is likely peaked in 2007. Fed is likely to raise the rate third quarter.
Anyway, on the supply side, I don't see serious disruption in Saudi, which has a much higher standard comparing to Libya, Egypt etc, It has a Sunni ruling family and a majority Sunni population. It is strikingly different from Bahrain ( a Sunni ruling family and 70% Shiite population. But thats another discussion.
Just my two cents.

Mar 8, 2011

People like Coldplay and voted for the Nazis, you can't trust people Jeremy

Mar 8, 2011

you got lucky

Mar 8, 2011

Don't you mean congestion in Cushing?

I think oil at $220 this year is extremely unlikely. I own some OTM oil calls but as insurance on some positions, not as outright speculative bets. There is no fundamental basis for oil to go that high this year, and I don't think betting on geopolitical events is a smart move unless you have inside info or are a political expert on the Middle East...

I think you'll see $200+ on a sustained basis by the end of the decade at the latest, but not this year or next.

Mar 8, 2011
alexpasch:

Don't you mean congestion in Cushing?

I think oil at $220 this year is extremely unlikely. I own some OTM oil calls but as insurance on some positions, not as outright speculative bets. There is no fundamental basis for oil to go that high this year, and I don't think betting on geopolitical events is a smart move unless you have inside info or are a political expert on the Middle East...

I think you'll see $200+ on a sustained basis by the end of the decade at the latest, but not this year or next.

Lol. You got me. Can't believe nobody caught that sooner. SB.

Mar 8, 2011

And the congestion in Cushing has been widely explained, it's just too much oil feeding into the refinery/storage hub there and difficulty moving the excess out due to trucking/rail/pipeline costs...several articles have been written on it, not going to reinvent the wheel here.

Mar 8, 2011

I thought he meant Cushing. I thought Pershing might be the home to SPR or something, and I couldn't find anything on a Google search, but I guess it isn't anything.

The WTI-Brent arbitrage is asymmetrical. Because pipelines between the Gulf Coast and Cushing flow northwards, it is much easier for the market to correct a widening WTI premium than a widening discount. A widening WTI premium indicates WTI supply is tightening and encourages moving more imported crude oil from the Gulf Coast into the area, following current pipeline flows, to eventually reduce the temporary premium.

A WTI discount implies excess supply, which logistically is more difficult to relieve in the Cushing area. In the past, the market response to a discount entailed: on the supply side, lowering discretionary imports from the Gulf; and on the demand side, ramping up local refinery runs. The latter is a much more lagged process than turning pipeline flows on or off. Today neither lever can be mobilized as effectively as on previous occasions. Pipeline shipments of imported crude now come mostly from Canada and are no longer fully discretionary. That crude has no other outlets, and pipelines have limited flexibility to adjust their runs. Domestic production from the land-locked Bakken (in Cushing's backyard) also has been on the rise, reversing earlier declines in other fields that supply Cushing. On the demand side, refineries appear to have responded, albeit with a lag, but the swing capacity may only go so far in denting inventories, and refiners also quickly run into problems disposing of their output, as domestic demand has yet fully to recover from the economic downturn. They are also limited by the distribution system, which is not configured to move inland products to the Gulf Coast for export.

http://www.eia.doe.gov/oog/info/twip/twiparch/1102...

Mar 9, 2011

I'm buying long term puts at $70....they're cheap as chips.

Mar 9, 2011
samoanboy:

I'm buying long term puts at $70....they're cheap as chips.

I sold long-term puts on oil months ago and have made nice gains. If you're buying them as a short-term trade or as insurance, then I think it's a wise move, but if you are planning to hold until maturity, imo you'll lose the entire premium.

Mar 10, 2011
alexpasch:
samoanboy:

I'm buying long term puts at $70....they're cheap as chips.

I sold long-term puts on oil months ago and have made nice gains. If you're buying them as a short-term trade or as insurance, then I think it's a wise move, but if you are planning to hold until maturity, imo you'll lose the entire premium.

I am doing it professionally as a hedge and on pa as directional bet...6 months till maturity and will not be rolling it over...main catalyst for my pa bet is just a feeling (and after to speaking to a couple of brokers) that it was a little bit underpriced and hopefully the delta should stand up if the oil price starts to come back towards $100...No idea if it will but seems a reasonable bet to me - would love a trader's perspective on this though and I have moved a bit more out of the money since I put it on...sooooo

Mar 9, 2011

I find it extremely humorous how the entire Western world is eyeing Saudi Arabia like a hungry wolf. Hearing comments like:"If they didnt have the oil, they'd be a big sandbox" and "I wish they go back to their camel riding ways", and the one that really knocked me over laughing was "generally despise western culture". Oh really? How is that so junkbondswap? And here I am, forcing myself to believe that the Western world is the pinnacle of civilization. I never would have that I would be so naive.

Any who. Back to the topic. The regime won't fall. and if it did, it would be made into a constitutional monarchy.

@IlliniProgrammer: HE Minister of Petroleum & Minerals Ali Al-Naimi isn't fibbing. That is true. As I previously mentioned, I have come to personally know many people working in the oil&gas industry. They all collectively, albeit in different strengths, agree that the most popular lie on the street is that Saudi Arabia is running out of oil. Many years ago (circa 1970s/1980s), they believed reserves would be totally depleted by 2010. No one knows about the size of the reserves and how much is left except the top executives, and most of them on a need-to-know basis (except for Naimi, Al-Faleh, and a very select few others ofcourse)

Greed is Good.

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Mar 9, 2011
konig:

@IlliniProgrammer: HE Minister of Petroleum & Minerals Ali Al-Naimi isn't fibbing. That is true. As I previously mentioned, I have come to personally know many people working in the oil&gas industry. They all collectively, albeit in different strengths, agree that the most popular lie on the street is that Saudi Arabia is running out of oil. Many years ago (circa 1970s/1980s), they believed reserves would be totally depleted by 2010. No one knows about the size of the reserves and how much is left except the top executives, and most of them on a need-to-know basis (except for Naimi, Al-Faleh, and a very select few others ofcourse)

The secret nature of Saudi reserves is the subject of many conspiracy theories- most of which I don't buy. Western geologists have access to a lot of information via satellite mapping these days and I'd doubt that Saudi Arabia could fudge the probable reserves numbers by more than 30-40% without getting called on it.

All I know is that the last time Saudi Arabia invited a whole bunch of energy ministers to their country and asked folks to raise their hands if they couldn't get oil delivered, that was right before oil shot up $20 to $140/barrel. It was actually quite funny.

Saudi Arabia is desperately trying to talk down the price of oil right now. They know that oil price volatility isn't good for business. Europeans start conserving more and Americans think about reducing demand. The last time they got on the news and started denying and downplaying stuff, they were practically out of spare capacity.

If Saudi Arabia thought they could actually reduce oil price volatility, they would just turn on the spigots and make an announcement. Instead they are going out there with a dog and pony show but no actual action again. If you believe in technicals or the fact that history rhymes, the fact that the House of Saud is going out there desperately trying to talk down the price of oil might be bullish.

Mar 9, 2011

On that note, http://www.youtube.com/watch?v=5rrZ-yOvSok
Enjoy :D

P.S. quite an inaccurate, but humorous, representation of Saudi lower class and lower-middle class life :D

Greed is Good.

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Mar 9, 2011

Konig,

I was intentionally being controversial in an effort to incite discussion. This thread has been extremely productive and I appreciate those with more oil specific knowledge than me chiming in as I am admittedly not well-informed in this area.

With that said, I realize that many countries in the UAE have a great deal to offer in the way of oil wealth, tourism, culture and financial hubs (again largely due to their vast resources). I was referring to some of the less developed, more volatile oil-producing nations but with that said if many of these countries did not have vast oil wealth they would not be part of the discussion. The fact remains that many Muslim based countries share extremely divergent cultural views from the West. That is not to say that they hate us but there are obviously radical sub-sets who despise every aspect of our culture.

Mar 9, 2011
junkbondswap:

Konig,

I was intentionally being controversial in an effort to incite discussion. This thread has been extremely productive and I appreciate those with more oil specific knowledge than me chiming in as I am admittedly not well-informed in this area.

With that said, I realize that many countries in the UAE have a great deal to offer in the way of oil wealth, tourism, culture and financial hubs (again largely due to their vast resources). I was referring to some of the less developed, more volatile oil-producing nations but with that said if many of these countries did not have vast oil wealth they would not be part of the discussion. The fact remains that many Muslim based countries share extremely divergent cultural views from the West. That is not to say that they hate us but there are obviously radical sub-sets who despise every aspect of our culture.

I apologise if I may seem aggressive, but such comments have become off-putting for me and that's why I responded that way. Once more, I apologise.

"That is not to say that they hate us but there are obviously radical sub-sets who despise every aspect of our culture."

Ofcourse. There are just as many Westerners who hate us and Islam for no absolute reason at all. I believe they're labelled as "rednecks".

Greed is Good.

Mar 9, 2011
konig:

Ofcourse. There are just as many Westerners who hate us and Islam for no absolute reason at all. I believe they're labelled as "rednecks".

Actually, some of us rednecks are ok with Muslims. Please don't stereotype.

Mar 9, 2011
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