Oil - Not Ready for Prime Time

Crude Oil, as a commodity, is a tough place to make money trading.  After all, Oil is the ultimate economic barometer, and the economy is the ultimate Oil barometer.  But right now, we don't know enough about either Oil's net production gains for 2009 or how bad the credit crisis will slow WORLD economic growth (as opposed to the U.S.).  

Oil for FRONT MONTH DELIVERY could fall below $60 by year end.  My eye is on the December 2010, 2011, and 2012 delivery contract.  Prior to the Oil run up last year Oil had been trading in backwardation (where later delivery contracts are trading for a lower price than the near month contracts), and at this moment Oil is solidly in Contango, with later delivery points higher, some of them MUCH higher (on a percentage basis).  This makes sense, if you think that the recession will end at some point in the nest 2 years.

Production of Crude & Condensate is up modestly in 2008 from 2007, with the marginal supply of ethanol, bio-fuels, and coal to liquids up sharply relative to their 2007 numbers.  Natural Gas Plant Liquids production has had a significant increase in production year over year.  2008 Gross liquids has averaged 85,788,000 barrels per day in 2008 vs. 84,408,000 in 2007 an increase of over 1.3 million barrels per day.  

So that begs the questions:

If the world has increased the total liquid's petroleum supply by 1.3 million barrels... and the U.S. is consuming 1.037 million barrels LESS... and inventories declined year over year...

Just who is out biding the U.S. for this Oil (or is it that the exporters are just consuming more of their own)?

Will "they" continue to do so?

The ability of Mexico and Venezuela to maintain their export capacity to the U.S. is questionable at best (remember, Oil is priced in US$.  Exports, or lack thereof, into the U.S. will have an exaggerated effect on world prices).  Internal consumption in the Middle East and Russia (4 of the top 5 exporters) rose over 7% last year while gross world production grew at 1.5% this year (hat's off to Robert Rapier and his r-squared blog for an excellent call here).  None of this argues for a protracted decline in Oil prices, but EVERYTHING in the short term seems to make that very argument.  

So how much of all of this is priced into the current market?  And will the futures curve steepen or flatten?  If you trade Oil and you get this right, you will wind up on the cover of Fortune Magazine.  It is setups like these that can make, or break, a career.

Good Luck!

Mentatt (at) yahoo (dot) com