Kutilaneethi

Damn! I got beat to this post by John Snow. The U.S. Treasury Secretary came out and said on Friday morning that the oil price rise is a bubble! Big deal, I said that earlier this week, when CNBC started touting their “how the average investor can capitalize on rising oil price” specials. When the “average investor” gets to the table, you know the market is ripe for plucking!

Friday we saw yet another record in the price of a barrel of crude oil, as it topped $49 a barrel on the New York Mercantile Exchange. Suddenly $50 a barrel is a very real possibility and the talk has moved to $60.

Consider this: Oil has risen over 50% in the past year. Much of that gain I see as unjustified. Sure, there is all the talk about India and China guzzling down all the oil, but that is really a lot of baloney. China was definitely running its engine on all cylinders last year and the year before. If anything, it is tapping the brakes on the economic engine now, by tightening credit and flexing policy muscles.

At least in some circles higher oil prices are being explained as a function of higher-than expected global demand, tight supplies, an increased risk of terror attacks and the decline in efficiency in production as the oil industry's infrastructure ages. That is excellent sop to feed the press, but it ain’t flyin here!

Sure, global demand is high, but look at supply – it is at record levels too. The current level of global inventory is about 300 million barrels.

Fear about reduced output capacity is also unjustified. The Organization of the Petroleum Exporting Countries (OPEC), which pumps out about 40% of the world's oil, has some 2.1 million barrels per day of excess production capacity. Moreover, oil producers continue to pump out oil at higher levels than before.

The threat of terror attacks is the only factor, I see as having some justification; but even terrorist actions tend to be localized and they seldom cut supplies drastically. At the present time a hefty fear premium has been built into the price of oil. That’s bid up prices $10 or more higher than where supply and demand intersect. The market cannot bear this premium for too long and it has to come down at some point.

In case you are wondering why the economy has not caved in as it did in the 1980s…. Well, for one inflation is not a threat – not enough to feed through the oil prices and destabilize the economy. Oil prices, adjusted for inflation, aren't as high as the early 1980s. There are indications that the current environment is fed primarily by speculators looking to make a buck now that other markets have grown ploddy.

That brings us to Yukos. Well, it looks like the company might go belly up after all. The Russian government is unlikely to forgive its sins, but they are unlikely to shut off the supply completely. Russia needs the cash that Yukos' oil generates. In all likelihood Yukos will be sold to another smaller Russian oil company or to a multi-national that can re-equip it and start pumping oil with a short turnaround.

In short, its time you short the market and pocketed your profits, cause this is as far as this ride goes!