Thursday, April 30, 2009

Monday, April 27, 2009

LTCM Guest Lecture at MIT

One of the Long Term Capital Management folks, talking about the implosion of this fund from back in the 90's.

* The first 1:05 of the talk is "facts and fictions about the LTCM meltdown"
* Lessons learned begins at 1 hour and 6 minutes.
* Q and A at about 1:10

Tuesday, April 21, 2009

Customer Programs in Electricity

The majority of postings on this site are related to commodity markets. Why? Because I find them interesting and dynamic, and because my readers feel the same way. Commodity markets are inherently interesting because they change so quickly. Also (and this is kind of a drag), we are exposed to commodity price in our businesses.

So if the majority of postings are on the drivers of commodity prices, would it surprise you to know that I feel that commodity price fundamentals are not the most important thing that this site communicates? It is true...most of my postings are interesting and important (arguably) - but not crucial to business success.

The following post IS crucial to business success. It deals with providing customers choice and certainty. I have posted previously about how developing customer programs like budget billing, fixed price offerings, and not-to-exceed (cap) price offerings - and how these programs are integral to a business's success. Why do I feel this way? They create customer freedom to choose. Customer certainty. Customer flexibility. Customers can be offered program entry points at multiple times during the year and customers have the ability to spread their costs evenly over a number of months are the happiest customers. Per Gallon Price becomes less of a hurdle. Value is added above the delivery of the molecule into the customer tank.

Here is more proof, via Yahoo Finance:
DALLAS (AP) -- At TXU Energy, the biggest electric company in Texas, the fastest-growing billing plan is one that lets customers lock in the price of power for one or two years.

"It's easier to plan that way, and I think you're saving money," says Brian Bell, an advertising salesman who signed a 2-year, fixed-price contract for electricity at the 1,500-square-foot Dallas town house he bought last year.

Other homeowners across the country are locking in prices now on electricity for summer cooling and heating oil for next winter. Heating oil prices are nearly 60 percent lower than they were at this time last year, according to Energy Department figures.

Natural gas prices have fallen as well, which not only affects the price homeowners pay for gas but the price of electricity produced by power plants that run on gas.
Our deregulated competition is beginning to offer flexible payment terms - not selling price but selling value to the consumer. Will our industry be early adopters of this customer service, or will our competitors build a competitive beachhead and some momentum in this regard?

Embracing these programs satisfy a customer need. They allow the local propane company to offer piece of mind to the customer, and make paying the heat bill feel like paying the cell phone bill, or the water bill.

In grad school, I learned that businesses should "make it easy for their customers to give them money." The more flexible our businesses become to our customers' desires, the more customers will embrace us as their supplier - regardless of price.

Saturday, April 18, 2009

The Curve of Forward Prices

An article containing some good explanation about what the forward price curve represents can be found at Here is an excerpt:

Looking at the prices of long-dated oil futures can be useful as they provide the best tradable indication of the future expected price of the commodity. While long-dated futures contracts are traded less frequently than their near-month counterparts, the December contract is an exception as speculators and producers attempt to lock in or hedge oil exposure for year-end.

Oil producers use the futures prices as a key benchmark for domestic production, using the contracts to hedge current inventory or using the price to evaluate potential exploration projects.

"The forward price of crude oil is a combination of the need to fund existing stock levels and trading flows, which in turn embody price expectations," said Lawrence Eagles, global head of commodities research at JPMorgan.

While long-dated futures contracts are still much higher than the near month, a situation described as contango, the forward curve has been flattening out recently as traders have adjusted expectations after weeks worth of data from the Energy Information Administration, an Organization of Petroleum Exporting Countries meeting and bulk shipping statistics. As the curve flattens, the long-dated contracts fall at a faster rate than the near-month contract, or the near-month contract rises faster than those further out. A year-end rally could be thwarted by continued weak demand and burgeoning supplies. Oil demand is forecast to fall to the lowest level in five years, according to the Energy Information Administration. U.S. crude oil inventories are at 18-year highs.

Thursday, April 16, 2009

A Fantasticly Entertaining Waste of Time

The Washington Post held its third annual Peep-Art Competition recently.

HERE are the 20 top reader diorama submissions.

Oil Futures Market Primer

Here is a lecture by Robert Shiller of Yale on the uses of stock and commodities futures. It spends a great amount of time focusing on oil market fundamentals. It takes an hour to get through - but if you are a propane of heating oil marketer this is a solid and easy to understand primer on a key market and how it works.

OPEC Oil Market Report for March

Monthly Oil Market Highlights in an audio podcast, as OPEC sees them...

* Outlook is Bearish as world GDP is being revised downward.
* World GDP is contracting by about 1%

* Supply growth is slowing, too
* Days of forward supply (at 60 days) are the highest they have been in 15 years

Southwest Reports that Fuel Hedging Program Creates More Losses

From Southwest's 10Q, released today.
“We benefited from significantly lower year-over-year economic jet fuel costs in first quarter 2009. Even with $65 million in unfavorable cash settlements from derivative contracts, our first quarter 2009 economic jet fuel costs decreased 16.2 percent to $1.76 per gallon. With oil prices rising, we have begun to rebuild our 2009 and 2010 hedge positions, using purchased call options, to provide protection against significant fuel price spikes. These new positions present no additional exposure to cash collateral requirements. Furthermore, we have modified our major fuel hedge counterparty agreements to allow us to use collateral other than cash to limit our cash collateral exposure to comfortable levels. Based on our second quarter derivative position and market energy prices as of April 14, 2009, we currently anticipate our second quarter 2009 economic jet fuel costs, including taxes, to be in line with first quarter 2009 (or the $1.75 per gallon range).”

The Company has derivative contracts in place for approximately 50 percent of its second quarter 2009 estimated fuel consumption, capped at a weighted average crude-equivalent price of approximately $66 per barrel; approximately 40 percent for the remainder of 2009 capped at a weighted average crude-equivalent price of approximately $71 per barrel; and approximately 30 percent in 2010 capped at a weighted average crude-equivalent price of approximately $77 per barrel. The Company has modest fuel hedge positions in 2011 through 2013. The current market value (as of April 14, 2009) of its net fuel derivative contracts for 2009 through 2013 reflects a net liability of approximately $950 million.
I am partial to the SWA business model and corporate culture. It has proven its competitive advantage in the best of times and the worst of times. Its team members are friendly and motivated, and its management is aggressive in attacking opportunity. Plus...they are active fuel price speculators. Their hedging program has earned them kudos from the national media, and has been written about on this site several times. But unless your fuel price speculation program is run by Bernie Madoff (pre-ponzi), even the best traders and economists are going to lose once in a while.

More importantly for propane and heating oil marketers, though, check out that they bought long dated CALLS to protect their position. They weren't afraid to spend the premium for the insurance that the calls provide. Also, they view their fuel risk position as a portfolio - and seem to be willing to enter into a number of strategies to achieve their goal. Finally, they have a model that they use that can help them plan what costs will be due to the hedging tools they hold in their portfolio. These are the things that every propane and heating oil marketer should be doing to manage their risk and fine tune their business.

If SWA management needs a post 10q pick-me-up, I am sure that they could step on board one of their planes with this industrious and talented flight attendant.

Monday, April 13, 2009

Barton Biggs on Charlie Rose

This interview is about a month old - but this morning is the first time I had a chance to watch it. Good stuff.

Sunday, April 12, 2009

Natural Gas Basics

This is a 4-page analysis of simple supply and demand in the natural gas sector. It was released by the EIA last week, and is a good basic overview.

Friday, April 10, 2009

Thursday, April 9, 2009

Causes of the Oil Shock

This article is from Econbrowser, a blog from Dr. James Hamilton - a professor from the University of San Diego.

It discusses a paper he wrote on the causes of the oil price rally of 2007-2008. It is formal and academic, and there are charts and formulas. But here is the bottom line: Dr. Hamilton agrees with my thesis regarding the rally. Dr Hamilton states:
"Growth in world income was the primary cause behind an increase in world petroleum consumption of 5 million barrels per day between 2003 and 2005, a 6% increase over the two years. The next two years (2006 and 2007) saw even faster economic growth (10.1% cumulative two-year growth), with Chinese oil consumption alone increasing 870,000 barrels per day. Yet between 2005 and 2007, global oil production stagnated.
My article (from early January) is here.

The cool thing is that Dr. Hamilton and I agree on the causes. He builds better looking models, though.

Wednesday, April 8, 2009

New Clear Energy

Is Nuclear Energy the Answer to our power-centric lifestyle?

Here is an opinion article from the Wall Street Journal that details the pro and con. 

Tuesday, April 7, 2009

Monte Carlo Simulations In Baseball

I remember playing strat-o-matic baseball with my older brothers as a kid. This is just as cool.

Monday, April 6, 2009

In Defense of Derivatives

From the opinion page of the Wall Street Journal, by Rene Stultz:

From the perspective of Main Street companies, derivatives are not just about high finance, quants and politics, but about investing in America's core industries, jobs and economic recovery. Companies find that over-the-counter derivatives are essential to their day-to-day operations. Derivatives help insulate them from risk, which allows them to borrow capital at better prices than they would otherwise. And derivatives are more useful than ever in these days of unusual volatility in financial markets.

For example, not being able to hedge currency risk through the use of a derivative can leave a company exposed to fluctuations in currency markets. Without derivatives companies could see movements in exchange rates turn a profitable export contract into a money-losing agreement.

In its current annual report, Caterpillar Inc. makes the case for why it relies on derivatives: "Our risk management policy . . . allows for the use of derivative financial instruments to prudently manage foreign currency exchange rate, interest rate, commodity price and Caterpillar stock price exposures...."

Our businesses need derivatives. Most of us choose to drive cars even though they sometimes crash. But we also insist that cars are made as safe as it makes economic sense for them to be, and that speed limits and other rules of the road are enforced. The same logic should apply to derivatives.

Declarations about Certainty and Questions about Nuance

Over the past couple of weeks I have posted several pieces that are skeptical in tone, including (especially) my post on Experts. This posting must have touched a nerve, as I received more comments about this posting than any other prior post on the site. It seems folks thought that was ironic for someone who claims himself to be a commodity market expert to dis experts on his site.

(By the way, one of the signs that my blog is gaining traction is that readers contact me now to provide their opinions. FANTASTIC! And THANKS!! I am lucky to have readers who care, and all comments are appreciated. If something in particular strikes you, leave some comments at the end of the posting for others to consider. Heck, most of the readers of this blog are smarter than I am - so you will probably teach me (and everyone else) something significant.)

Allow me to move back to the "Experts" subject, though. Indeed, I do encourage everyone to have a robust skepticism of what they think they "know". I side with Nicholas Taleb in this regard - in The Black Swan he says that the market is far more random than folks want to believe. There are analysts, marketers, and consultants throughout the world of stocks and commodities that make recommendations on how you (Mr. Third Party) should allocate your assets or time the market. Do they know with any reliable certainty? Of course not, otherwise they would keep their mouth shut and do what they are recommending with their own money.

However, just because the markets are more random than we perceive or want them to be does not mean that they are ALWAYS random. There are times when folks can execute a winning trade through research and discipline (and serendipity).

Unfortunately, the fact that the markets are random does not excuse us from having bottom line accountability to our banker (or our wife or our employees or our manager or our owner or our shareholders). It is the game we play, and those are the cards we have been dealt. The fact that markets is difficult or irrational does not excuse a business owner from making educated decisions.

Working with a market professional whom you trust can help you stay away from the cycle of greed, hope, and fear. Professionals can advise you on on the fundamental, seasonal, and technical factors in play in the market. Most importantly, professionals can help you discern the questions to ask yourself about your business. When you understand the questions, you can define the answers...and when you know the answers with certainty, decisions can be made with confidence. It is lonely (and a little scary) to make those decisions in solitude.

I appreciate the role of experts. But we must ask ourselves if those experts are engaging speakers that make declarative statements about certainties or whether they are humble market professionals that ask questions about nuance.

Any thoughts???

Saturday, April 4, 2009

China Owns Too Many Dollars

One of my favorite articles over the last several years was "The $1.4 Trillion Question" from the Atlantic Monthly. It discussed how the Chinese were amassing huge amounts of dollar denominated assets, and asked the question "what will happen next?" or maybe "what might go on to get the Chinese to be sellers of their stash of US dollars?"

Paul Krugman opined on this subject yesterday in the New York Times (15 months after the Atlantic Monthly piece was published). Here is a piece of that article:

Some background: In the early years of this decade, China began running large trade surpluses and also began attracting substantial inflows of foreign capital. If China had had a floating exchange rate — like, say, Canada — this would have led to a rise in the value of its currency, which, in turn, would have slowed the growth of China’s exports.

But China chose instead to keep the value of the yuan in terms of the dollar more or less fixed. To do this, it had to buy up dollars as they came flooding in. As the years went by, those trade surpluses just kept growing — and so did China’s hoard of foreign assets......

Was there a deep strategy behind this vast accumulation of low-yielding assets? Probably not. China acquired its $2 trillion stash — turning the People’s Republic into the T-bills Republic — the same way Britain acquired its empire: in a fit of absence of mind.

And just the other day, it seems, China’s leaders woke up and realized that they had a problem.
And the Chinese DO have a problem. They have amassed a position in US dollars that is so large that it does not have ample liquidity for an orderly exit. That's just crazy...US Dollars are the most liquid asset on Earth! This isn't a tertiary market like pork bellies or frozen concentrated orange juice, Mortimer - it is the sovereign currency of the largest economy in the world.

I figured the Chinese knew what they were doing when they were buying all those dollars. I figured they had the best and brightest of the People's Republic in a quiet and stoic bureau somewhere in the governmental center of Beijing, and that those folks were planning for Chinese economic dominance on the grandest scale (like so many drummers at the Olympics Opening Ceremonies).

Maybe it was all an economic accident. And the global economic quandary for our times....

Wednesday, April 1, 2009

Kamikaze Spending In Japan

The Wall Street Journal Asia Edition has a short editorial today regarding the stimulus effort undertaken by the Japanese government:

Prime Minister Taro Aso yesterday ordered his government to draw up yet another stimulus package to buoy his sinking economy. In an interview with the Journal's Yuka Hayashi published on Monday, Economy and Finance Minister Kaoru Yosano said the program will "far exceed" the 2% of GDP recommended by the International Monetary Fund and will include measures to boost credit, maintain employment and strengthen the social safety net.

This takes fiscal profligacy to a new level. Mr. Aso's Administration and its immediate predecessor have already rolled out about 1.5% of GDP in new spending since the financial crisis hit last year. As of today, Tokyo estimates government debt-to-GDP is at 157.5%. The OECD puts that figure higher, around 180%. Mr. Aso said yesterday he would "not hesitate" to issue bonds to pay for his plans.

I mentioned in the most recent 4+1 commentary that the US dollar stands to be the "least worst soverign currency." Of course, 2 days later the government announced a plan to buy a trillion dollars of paper and the dollar took its biggest one-day hit in almost 50 years.  I am still bullish the dollar - not necessarily because of the strength of the domestic economy, but rather because of the weakness of other economies worldwide.  The stimulus of a slowing Japanese economy is another example of worldwide weakness.