As the cost of a barrel sinks below $78, demand forecasts are down and investors are fleeing the market. That's bad news for Big Oil
The era of sky-high oil prices and record oil company profits could be over—for now.
That's because stock market panic is spreading to the oil market. Oil prices sank to their lowest level in 13 months on Oct. 10 as worldwide investor uncertainty grew. Light, sweet crude for November delivery fell $8.89 per barrel, or 10%, to settle at $77.70 a barrel on the New York Mercantile Exchange, or Nymex (CME). Oil has lost 47% since hitting a record $147.27 on July 11.
Gasoline prices are sliding (BusinessWeek.com, 10/8/08) alongside crude prices. A gallon of regular gasoline dropped 5.3¢ overnight from Oct. 9 to Oct. 10, reaching a national average of $3.35 a gallon, according to auto club AAA. Prices reached an all-time high of $4.11 on July 17.
As the credit crisis deepens, investors are fleeing a market that was bursting with trading activity just months ago. One reason is that banks like Goldman Sachs (GS) and Morgan Stanley (MS) are brokering fewer oil trades as their institutional investor clients resist further investments in crude. The darkening economic climate is also slowing demand and cutting forecasts for future demand, adding to downward price momentum.
Number of Futures Contracts Falls
"A lot of investors are getting out," says Peter Beutel, president of the energy risk management firm Cameron Hanover in New Canaan, Conn. "Pensions, sovereign wealth funds, and the like don't want to be in commodities anymore. Commodities—except gold—are a sinking ship."
As credit lines tighten and finance companies restructure or leave the market, trading activity in the Nymex's energy derivatives market is shrinking. Open interest in crude oil futures contracts on Nymex fell by nearly 21,000 contracts to a two-year low for the week ended Sept. 30, according to a report issued by the Commodity Futures Trading Commission (CFTC). Open interest, an important measure of market liquidity, has declined 19% since July, when oil rose to its record highs.
Volume in Nymex crude futures was 11.5 million contracts for September, up from August but below the monthly average of 12.4 million contracts traded through May, June, and July.
Banks like Goldman and Morgan Stanley aren't the only ones restructuring to scale back energy trading. Firms such as Oklahoma-based Semgroup have pulled out of the market entirely. UBS (UBS) has recently closed its over-the-counter commodities trading operation, and Bank of America (BAC) stopped its London-based energy and commodities trading earlier this year.
