Monday, August 31, 2009


There is a famous Pentagon briefing that has been lampooned quite a bit.  During this briefing Donald Rumsfeld steps to the podium to discuss the intelligence situation in Afganistan. He says:
"There are known knowns. These are things we know that we know. There are known unkowns. That is to say, there are things we know we don't know. But, there are also unknown unknowns. These are things we don't know we don't know."
He got a chuckle from some reporters. He got stares of confusion from others. As for me, I knew exactly what he was saying. And immediately I could relate it to my life. "Unknown Unknowns" in Secretary Rumsfeld's lingo, are things that we need to be worried about that we don't even know TO be worried about.
When driving down the road, you know to stay on the right side as you crest a hill. There could be a car coming the other way. (Since you knew to be cautious, that is an example of a known unknown.)  But as you crest that same hill and fall into a sinkhole created by recent rainstorms, you experience an unknown unknown (you didn't even realize that you needed to be worried about such a problem).
As individuals that are affected by the energy markets, we are all impacted by known and unknown unknown variables.  We are surrounded by known unknowns like hurricanes in the gulf or weekly storage inventory changes.  And these make the market move.  These variables have pushed the price of natural gas to 7-year lows.  There are also unknown unknowns, like when the subprime mortgage snowball gained such inertia that a massive commodity deleveraging sell off took place (4Q 2009).  The market did not even know to expect that came out of nowhere, just like the sinkhole our car drove into in the previous paragraph.  Unknown unknowns push the market much more violently and much more significantly when they appear.  And no one can predict when they will arise and become important - that is the true nature and danger of an unknown unknown
By this point, no doubt, my readers think I am as crazy as the reporters found Donnie Rumsfeld that day at the poduim.  But one of my favorite quotes from Charles Dow will help tie this together. 
"There is always a disposition in people's minds to think that existing conditions will be permanent. When the market is down and dull, it is hard to make people believe this is the prelude to a period of activity and advance. When prices are up and the country is prosperous, it is always said that while preceding booms have not lasted, there are circumstances connected with this one which [are] unlike its predecessors and give assurance of permanency. The one fact pertaining to all conditions is that they will change."
The market will change. It will fall into the pothole of some great unknown unknown in a similar fashion to how the great commodity bubble of 2008 was popped by the economic crisis. It will change all of a sudden, in a shocking fashion, and in a direction that very few anticipated. Consider this fact:
In the last 10 years, natural gas has been this cheap twice.  Each time, within a year, the market traded near $10.  The first time was in 1q of 2000 when gasd was trading just above $2.00.  by December of 2000, when it traded for $9.73.The second time was in July of 2002, when gas was trading around $2.75.  By February of 2003, gas traded for $9.33. 
Allow me some license to blend the statements of Secretary Rumsfeld and Mr. Dow: 
"The known unknown pertaining to all market conditions is that they will change."

Sunday, August 30, 2009