Oil's Murky Math

Where are we headed: Up to $200 a barrel? Down to $80? With little good data on supply or demand, oil's next price move is anyone's guess

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by Peter Coy

At around $125 a barrel, crude oil has more than doubled in price since the end of 2006. How is it possible that the vast majority of government forecasters, stock analysts, economists, traders, and journalists who follow the oil market failed to foresee this? Moreover, how can it be that even today, the bulls and bears on oil are extremely far apart, disagreeing not only on the oil outlook but even the present situation?

The answer is simple. You can't predict what oil prices are going to do even in the short-to-medium term unless you have a good handle on the forces of supply and demand. And that requires thorough and reliable data—which don't exist. Regrettably, the world oil market is no more transparent than a fragrant barrel of extra-heavy Orinoco crude. And the situation is getting worse because the world's fastest-growing oil consumer is also one of the most opaque: China.

Contradictory Predictions

The scarcity of good global data is a key reason why it's impossible to know for sure whether the next "super-spike" in oil in the coming three or four years will be up to $200 or more…or down to $80 or less. Even though the statistics aren't exact, they're all anyone has to go on, so they still have an enormous impact.

On May 13, for example, the price of crude oil rose to a record close of $125.80 on the New York Mercantile Exchange after the International Energy Agency announced its estimate that inventories of distillate fuels such as diesel and heating oil in developed nations fell 6.7% in March from a year earlier. If inventories really are shrinking, it should be bullish for prices because it indicates that production isn't keeping up with consumption. That's certainly the viewpoint of oil bulls like Matt Simmons, president of Houston investment bank Simmons & Co. International. Says Simmons: "We have lousy data, but what data we have is somewhat scary." He sees prices hitting $200 to $500 in six months to four years.

But other experts say oil inventories appear to be at least adequate. While agreeing with Simmons that the oil market is "data-famished," analyst Edward Morse of Lehman Brothers (LEH) concludes in a May 9 report that "fundamental misperceptions" have caused prices to overshoot. He thinks crude could fall to $83 by next year, a one-third drop.

No Transparency

Chalk up the poor underlying data to a combination of gamesmanship and incompetence.

Oil statistics are reasonably good for the wealthy nations that make up the Organization for Economic Cooperation and Development (OECD), although even in data-rich countries like the U.S. there are unexplained discrepancies. But the rich countries matter less and less because their production and consumption are both roughly flat.

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