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Are speculators responsible for the rally?

The biggest producer countries, led by Saudi Arabia, have blamed speculation for the extent of a rally that has seen oil prices double over the last 12 months.
Reuters | By Jane Merriman and Barbara Lewis
UPDATED ON JUL 03, 2008 11:25 PM IST

Oil’s rally to records well above $145 a barrel has stirred a heated debate about the role played by speculators in commodity markets. From the outset, oil futures markets have included participants unrelated to physical crude, but a rising tide of money from investors, chiefly pension funds, has fuelled arguments the market has been distorted.

The biggest producer countries, led by Saudi Arabia, which tend to favour fixed pricing, have blamed speculation for the extent of a rally that has seen oil prices double over the last 12 months.

Politicians from consumer countries have said the problems are fundamental and have called for more oil and investment to ease what they see as short and longer term supply problems. “There's no evidence we can find that speculators are driving futures prices,” said Sam Bodman, US energy secretary.

The view is supported by the heads of some of the world's biggest oil companies, who blame the dearth of new supplies and not speculators for high oil prices. “The argument that financial investors buying oil futures were behind oil's record levels was a myth. Supply is not responding adequately to rising demand,” said Tony Hayward, chief executive, BP. According to Jeroen van der Veer, Shell chief executive, “I do not think that you can blame speculation for the oil price.”

Those who believe in markets say any speculation provides valuable liquidity and ultimately will establish the price at which supply will match demand. “As an experienced futures trader, I have learned that price is a messenger of current and future supply and demand conditions,” said Hilary Till of Premia Capital Management.

Major players in the energy sector have long debated about the issue. Ali al-Naimi, Saudi Arabia's oil minister had said at the Jeddah energy meeting in June he was “convinced that the supply and demand balances and crude oil production levels are not the primary drivers of the current market situation and that markets are already well-supplied.” Abdullah al-Badri, secretary-general, OPEC, has called for measures to curb market speculation, which is driving prices to unjustified levels. “We are not happy with the current level of price for one reason. It has nothing to do with the fundamentals,” he said earlier.

According to the International Energy Agency's medium-term oil market report, the real reasons for high prices were strong demand growth, coupled with shortages of supply and refining capacity. “Blaming speculation is an easy solution which avoids taking the necessary steps to improve supply-side access and investment or to implement measures to improve energy efficiency,” the IEA report said.

It said the amount of money from investors buying into oil and other commodities as an inflation hedge and to balance asset portfolios, had risen from an estimated $15 billion in 2003 to around $260 billion now. However, there was no evidence that this activity had thrown the market out of kilter with supply and demand at the moment even if it had caused price distortions in the past.

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