Sunday, March 8, 2009

Impressionism In the Energy Markets

I wish I knew more about art. I have been exposed to very little in my life, and have never studied the different movements. However, I know what I like to look at. I find impressionist paintings very interesting and pleasing to my eye. And I didn't realize it till this weekend, but there is a significant similarity between markets and impressionism.

The unique thing about impressionism is that paintings done in this manner are meant to create different impressions upon people based upon their viewing distances. Up close a painting will look different than it might from a moderate distance or a very long distance. The viewers perception of the work will change dependent upon the proximity to it.

And it is the same with commodity markets. When heating oil inventories were swelling last summer, an employee in New York harbor might have thought "Price must go down, we have too much of this stuff." What that employee did not know is that there were electric and nuclear energy generation problems in Europe, and that China was buying heating oil to replace the coal-fired generation capacity that the nation intentionally shuttered prior to the Olympics. This additional demand caused the NYMEX market price to surge over $1.00 in just a matter of days.

Each step from an impressionist painting reveals a nuance or unique characteristic that was not discernible from a previous vantage point. Likewise, it is always important to take a step back from the markets to appreciate the fundamental drivers.

In the current energy markets, I offer the following three vantage points from which to view the market. Each tells a unique story.

1) Short Term: Domestic and world economies are faltering simultaneously and in significant magnitude. (In case you hadn't noticed.) But Americans are still consuming gasoline - and year over year demand is actually higher in unleaded gasoline.

2) Intermediate Term: Sooner or later, the aggressive steps taken to increase the monetary base will result in an economic turn around, both here and abroad. While this demand is re-forming, producers are cutting production, because spot prices are below the incremental cost of production.

3) Long Term: 2 billion cars by 2020. Thank you, Tata. Economic liberalization and growth in pacific rim countries and China and India will continue to tax the worlds natural resources (all commodities and even clean air and fresh water).

My impression? Prices might remain depressed for even 2 years, as the world regroups and shakes off the funk of economic malaise. But prices for most all energy commodities must gravitate higher due to global demand growth and the increasing cost of new production.

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