Having Fun with Oil

The first thing I want to start off with, since it's a current hot topic, is HOW oil is bought on the commodities market. That's because there is still one issue (and it's a big one) that's being over-looked. People are blaming speculators for driving up prices of oil and some have said it could be as low as $50 a barrel right now. Speculators (also known as investors) go to where there is money being made, and in a weak economy, there aren't many places for them to go. For commodities, the choices are corn, gold, and oil right now. Commodities as investments especially look attractive when inflation occurs and the dollar is worth less. But the thing is not all investors driving up the prices are speculators. The difference in the commodities market over the stock market is you get ownership of physical goods instead of paper stock. The oil companies have to get their oil from somewhere, so they buy it on the same market the speculators do.

Would they bid up prices to get it? Yes. They have to in order to get it. BUT... would they inflate the price above a fair realistic market value? Wouldn't that hurt them? Books show the profit margins on oil are small, so there's no way the oil companies would shoot themselves in the foot and help inflate oil prices!

Well let's now take a look at the most over-looked detail in buying commodities: you're not buying oil you get NOW, you're buying oil FUTURES 30, 60, 90, and 120 days in advance of delivery.

So what? That's an insignificant detail!

...or is it? When oil prices rise, the price at the pump raises IMMEDIATELY, not 30, 60, 90, or 120 days down the line. So let's do math shall we?

1.Oil bought at $XX per barrel, which translates into $X.XX per gallon.
2. Oil prices rise to $XX + 5 per barrel
3. Oil companies sell the gas not at the $XX price they paid, but immediately at the XX + 5 it's now worth on the market; raising pump prices to $X.XX + 1.
4. That's +5 additional profit added to their small "normal" profit, or +1 profit per gallon; however the oil firm does the accounting.

And ladies and gentlemen, that's how oil companies make record profits in declining economic conditions and raised prices that see customers buying less. It's an accounting trick to value past inventory at current market rates. An increase in current market rates makes the oil futures bought months ago and even past inventory worth more, so it's sold to the customer at current rates. Every time it rises, it makes the inventory worth more, which makes more profits when sold at current prices instead of the lower prices the oil was bought at in the past.

And as mentioned in a previous paper, inflation of the dollar, making it take more dollars to buy oil, is still a huge factor that shouldn't be ruled out.