More Quibbling on Economists Handling the Speculation Issue
Stefan Karlsson says in this piece that we must:
Note further that commodity speculators can take both long position and short positions. This implies that commodity speculators may not in fact be contributing to higher prices. If speculators as a group have equally large long and short positions then they will have no effect on futures prices, and if they as a group have larger short positions than long positions then their speculations will in fact lower futures prices.
Now I am only picking on him because my breakthrough finally was crystallized while reading his article; there have been plenty of apologists for capitalism making this same argument. In any event, as with the claim that the futures price is the market's "best guess" of the spot price at a future date, so too I think the economists here aren't really thinking this through.
Let's say the spot price of oil right now is $140, and the futures price for June '09 delivery is $145. (I'm not bothering to look it up; I don't know what it is.)
Now some investment bankers are partying it up with some Special Ops guys. After a few lines in the bathroom, they are buds and the Special Ops guys tell them about an "accident" that is going to occur with Iranian president Abema-dinobots in May 2009.
So those guys hop on the phone and start dumping everything they've got into June 2009 oil futures. (Maybe some hedge themselves by shorting April 09 futures. But the point is, they all go long on a TON of June 09 futures.)
I think we can all agree that this influx of new demand will boost the market-clearing price of June 2009 futures. No matter how you model everybody else, surely they won't soak up an infinite amount of demand for futures contracts at the original price; people going short will need higher and higher prices to induce them to take yet bigger short positions.
Now I suppose a response could be, "Oh, but now you're involving people besides the class of pure speculators. They would suck more contracts out of oil producers and other groups who go short for hedging purposes. Karlsson was talking just about the speculators per se."
But even if the whole market hears the news, then you would still get the same movement. Some people would think the news would result in a June 2009 spot price of, say, more than $350, while others might think that's crazy, and that oil wouldn't break $300. So the first, more bullish group goes long, while the latter, less bullish (not bearish, mind you) group goes short. When all is said and done, they could be equally balanced between long and short positions.
Anyway, I probably made this post much longer than it needed to be, since its point is rather elementary. Just because there needs to be a long and a short on every futures contract, doesn't rule out the possibility that speculators can influence spot prices.
Indeed, we want speculators to be able to move spot prices. In the scenario above, we want spot oil to shoot up, and for there to be massive contango, to get get people to start stockpiling oil like crazy over the next 12 months.
One final thing: In his defense, maybe Karlsson had the following in mind. Suppose we are at an initial equilibrium, where a futures price is determined only by traditional hedgers, such as oil companies and airlines. Now a bunch of speculators come on the scene. If their activity leads to a higher futures price, then that will cause the original hedgers (the fundamental traders) to become net short, as they "export" some of their contracts to the Nation of Speculators. But that means the Nation of Speculators must be net long.
And vice versa is true: If the Nation of Speculators ends up causing a financial-world (i.e. market) futures price to be lower than it would be without trade with the speculators, then the Nation of Hedgers will import futures contracts from them at their cheaper price, and become net long. That means the Nation of Speculators is net short.
OK I guess I will give Karlsson the benefit of the doubt, and assume this is what he had in mind.
Note further that commodity speculators can take both long position and short positions. This implies that commodity speculators may not in fact be contributing to higher prices. If speculators as a group have equally large long and short positions then they will have no effect on futures prices, and if they as a group have larger short positions than long positions then their speculations will in fact lower futures prices.
Now I am only picking on him because my breakthrough finally was crystallized while reading his article; there have been plenty of apologists for capitalism making this same argument. In any event, as with the claim that the futures price is the market's "best guess" of the spot price at a future date, so too I think the economists here aren't really thinking this through.
Let's say the spot price of oil right now is $140, and the futures price for June '09 delivery is $145. (I'm not bothering to look it up; I don't know what it is.)
Now some investment bankers are partying it up with some Special Ops guys. After a few lines in the bathroom, they are buds and the Special Ops guys tell them about an "accident" that is going to occur with Iranian president Abema-dinobots in May 2009.
So those guys hop on the phone and start dumping everything they've got into June 2009 oil futures. (Maybe some hedge themselves by shorting April 09 futures. But the point is, they all go long on a TON of June 09 futures.)
I think we can all agree that this influx of new demand will boost the market-clearing price of June 2009 futures. No matter how you model everybody else, surely they won't soak up an infinite amount of demand for futures contracts at the original price; people going short will need higher and higher prices to induce them to take yet bigger short positions.
Now I suppose a response could be, "Oh, but now you're involving people besides the class of pure speculators. They would suck more contracts out of oil producers and other groups who go short for hedging purposes. Karlsson was talking just about the speculators per se."
But even if the whole market hears the news, then you would still get the same movement. Some people would think the news would result in a June 2009 spot price of, say, more than $350, while others might think that's crazy, and that oil wouldn't break $300. So the first, more bullish group goes long, while the latter, less bullish (not bearish, mind you) group goes short. When all is said and done, they could be equally balanced between long and short positions.
Anyway, I probably made this post much longer than it needed to be, since its point is rather elementary. Just because there needs to be a long and a short on every futures contract, doesn't rule out the possibility that speculators can influence spot prices.
Indeed, we want speculators to be able to move spot prices. In the scenario above, we want spot oil to shoot up, and for there to be massive contango, to get get people to start stockpiling oil like crazy over the next 12 months.
One final thing: In his defense, maybe Karlsson had the following in mind. Suppose we are at an initial equilibrium, where a futures price is determined only by traditional hedgers, such as oil companies and airlines. Now a bunch of speculators come on the scene. If their activity leads to a higher futures price, then that will cause the original hedgers (the fundamental traders) to become net short, as they "export" some of their contracts to the Nation of Speculators. But that means the Nation of Speculators must be net long.
And vice versa is true: If the Nation of Speculators ends up causing a financial-world (i.e. market) futures price to be lower than it would be without trade with the speculators, then the Nation of Hedgers will import futures contracts from them at their cheaper price, and become net long. That means the Nation of Speculators is net short.
OK I guess I will give Karlsson the benefit of the doubt, and assume this is what he had in mind.
I'd love to be a trader aganst you.
ReplyDeleteFirst, ifAfter a few lines in the bathroom, they are buds and the Special Ops guys tell them about an "accident" that is going to occur with Iranian president Abema-dinobots in May 2009.
I would think oil collapses in price under this scenario. With Ahmadinejad out of the picture, this suggests that there will be NO attack on ran, that oil will flow, and other factions friendliier to the U.S. will take control of the country.
2. I don't see anything at all incorrect with the Karlsson excerpt at all. He is stating basic facts. Karlson is not saying that the net speculators positon will be neutralized. He is simply stating that speculators can have an upward, downward or neutral postion dependng on the specfics of the market at the time.
3.Anyway, I probably made this post much longer than it needed to be, since its point is rather elementary.
Oh yeah.