On the first day of the second half of a thus-far difficult 2008 - and the second half is supposed to be the stronger half - we sat down with Director of Zacks Equity Research
Dirk van Dijk, CFA for his take on what can be expected in the days, weeks and months ahead.
What is your latest thinking on the astronomical prices of oil these days?
There is a debate raging over the cause of the rise in oil prices: is it due to fundamentals or speculation, or if due to a combination of both, and what is the relative importance of each? I come down squarely on the side of fundamentals being the predominant cause, although the sharp day-to-day moves clearly show that there is some speculation involved.
While it is true that the volume of oil futures contracts swamps the amount of physical oil, the fact remains that at the end of each month, the futures are settled and someone gets the physical commodity. If the price of the futures were way out of line with the fundamental price of the physical commodity that day before the futures expired, there would be a huge arbitrage opportunity.
For speculation to really drive the price of a commodity over the intermediate to long term, there has to be some evidence of hoarding of the actual physical commodity. Aside from some indications that the Chinese have been building up their stockpiles both ahead of the Olympics and as well as a result of the earthquake, there is little evidence of hoarding of the physical commodity. In the U.S. oil inventories are below historical averages for this time of year.
Are all speculators long?
One must keep in mind some very real differences between the commodity markets and the stock market. One could easily have a stock market where short selling was not allowed. Indeed, there is many a CEO and long investor who might prefer it that way. In the stock market, short sellers do provide a useful function, though not one essential to the running of the market, with the possible exception of shorting by the floor specialists. Futures markets are different, and short sellers are needed every bit as much as are long investors. Indeed, for every contract of every futures market, there will be, by definition, exactly as many short positions as there are long positions.
Theoretically, one could have a futures market where there were no speculators, just people with legitimate needs to hedge. The classic textbook example would be the farmer who wants to know with certainty what price his corn will bring after harvest would sell futures (i.e. short the market) for the amount of corn he expected to grow that year.
At the same time, the soft drink maker might want to know with certainty how much its corn syrup was going to cost at the same time and would buy those futures from the farmer (go long).
