blame the speculators? try the analysts

Both Paul Krugman, on the left with the NY Times, and Alan Reynolds, on the right with the NY Post, agree that when it comes to oil prices, "speculators" are not the villians in this piece.

That's true, mostly because of Reynolds' observations that the speculators (those with no position in the underlying) are going short.

But that doesn't mean I agree with Krugman's suggestion that prices reflect fundamentals (Krugman called it "The Oil Nonbubble" in May). If prices reflect fundamentals how did every bubble in market history come about?

If oil prices reflect fundamentals, then either they were well off fundamentals six months ago or fundamental global demand has risen 50% so far this year, with not only no counteracting additional supply coming on, but no additional supply expected. It is simply too difficult to believe that there has been a fundamental demand increase of this magnitude and with such inelasticity of supply over mere months.

If there is a villian in this piece it's the analysts. A Goldman Sachs report says oil is going to $200. This Associated Press story says a "prediction by Morgan Stanley analyst Ole Slorer that oil prices could reach $150 by the July 4 weekend caused the Nymex contract to jump nearly $11 in a single day." The story then goes on to quote a Swiss analyst who calls this week's rise "the Morgan Stanley self fulfilling prophecy."

I sold my energy exposure years ago because of analyst reports saying oil would fall. Of course, when they did the opposite, the herd eventually came around and now say they they will go to the other extreme. Had I recalled that the analysts were still cheering on the longs at the height of the tech bubble in early 2000, I might not have taken their prognostications so seriously. But, obviously, some people do, as the $11 one day jump by one guy's prediction proves. Recall that $11 a barrel was the price of oil in 1999! Now, of course, this same Morgan Stanley analyst looks like a genius.

If it's so obvious that oil was going to hit $150 by mid-2008, where were these people in 2007? If you ask me, the typical analyst just takes the given price and extrapolates its momentum: e.g. if it's going up, it'll go up another 10% in the near term. They are right again and again as it keeps going, and then when it turns around they are wrong. But then they were only wrong once after a string of correct calls, right?

Every increase probably does mean the next move will be another increase. But it also increases the possibility of a crash. These aren't incompatible, because it concerns short term vs long term.