April 6, 2005
Oil at $105 per barrel? Not so fast.By Noel Sheppard
The day after a government report showed that crude oil inventories have risen to their highest levels since July 2002, the esteemed Wall Street brokerage firm, Goldman Sachs, released an analysis forecasting a continued increase in energy prices that could result in oil hitting $105 per barrel. As reported by Reuters:
'We believe oil markets may have entered the early stages of what we have referred to as a 'super spike' period —— a multi—year trading band of oil prices high enough to meaningfully reduce energy consumption and recreate a spare capacity cushion only after which will lower energy prices return,' Goldman's analysts wrote.
Oddly, according to Bloomberg, the Energy Department had this to say just 24 hours earlier:
'Stockpiles gained 5.4 million barrels, or 1.7 percent, to 314.7 million in the week ended March 25, the biggest increase since October, the report showed. Supplies are 9 percent higher than a year ago.'
This begs the question: Why would one of the most respected brokerage firms in the nation make such a prediction when the inventory data is suggesting the oil shortage that has been squeezing prices higher for the past twelve months seems to be waning?
Well, as the Chicago Board of Options Exchange Oil Index indicates, energy stocks have been going almost straight up since May 2003. In fact, this index has risen by more than 100% during this period. This compares to only a 33% increase in the S&P 500, and about a 45% rise in the NASDAQ 100.
What this means is that energy stocks have been the most exciting investment game on Wall Street for the past two years. Moreover, just look at what they've done so far this year —— up an amazing 18%. By contrast, the S&P 500 is down 2.5%, and the NASDAQ is down 8%.
Given this, if you ran a brokerage firm, would you want this party to end? Wouldn't you do anything within your power to extend the merriment as long as possible?
To better understand just how hot energy stocks have been of late, and why securities companies across the globe have such a vested interest in keeping oil prices from falling, one only needs to look at the frenzy for oil related initial public offerings that has occurred in England recently. According to an article published by Bloomberg a few weeks ago:
'On March 14, Afren Plc., a new oil and gas company, listed its shares on the London exchange at 20 pence each. By lunchtime, they had jumped to more than 56 pence, almost tripling in just a few hours.'
'White Nile is an exploration company set up by the former England cricket star Phil Edmonds. Listed on the London market at the start of February, the shares increased more than 11—fold in a week before being suspended.'
'Centurion Energy International Inc., which develops oil assets in Tunisia, has seen its share price rise from just 52 pence in 2003 to a high of 780 pence last month.'
Sound a bit like what was happening to Internet, dot—com, and technology stocks in the first quarter of 2000? Do you remember what brokerage firms and their analysts were saying then? These stocks were all going to just keep going higher, and higher, and higher, right?
Well, ladies and gentlemen, Caveat Emptor: The time has come for Americans to be fully educated as to how the brokerage community works.
Having been employed by one of Goldman Sachs' major competitors for eight years, I know full well that the primary modus operandi of such firms is to sell product. Period. And, the easiest product to sell is that which is already in the news.
Think back to the first quarter of 2000. Why was it so easy for brokerage firms to suck innocent and inexperienced investors into technology stocks as they were not only reaching their peaks, but trading at levels that equities never had in our nation's history?
Well, because every day, newspapers and television stations would proudly broadcast the new high the NASDAQ had hit. And, they would talk about the new IPO that had just come to market, and how it had quadrupled on its first day of trading.
So, when a high—profile analyst from a high—profile firm came out and raised his price target for XYZ.com, the unwitting masses couldn't get to their phones or computers fast enough to jump in headfirst.
The same thing is going on right now in energy stocks. On a daily basis, the public is being bombarded with talk of $3 gas, and pending rolling blackouts. So, when a high—profile firm like Goldman Sachs comes out with a $105 per barrel oil prediction, it shouldn't be surprising that the CBOE Oil Index jumped by 1.3% on the announcement.
For myself, I can only hope that the public is going to one day wake up and realize that when analysts are telling them to buy things at all—time highs, it might be time to sell.
Noel Sheppard is an economist and writer residing in Northern California. He welcomes your comments at email@example.com.