Inconsistent on Oil: heads we win, tails you lose . . .

I have 3 goals with my market analysis, and by extension these commentaries:

1) identify objective reality;

2) determine consensus on major issues;

3) discern variant perspective — i.e., where the crowd gets it wrong.

Because of this approach, I am somewhat sensitive to bad arguments, faulty reasoning, and worst of all hypocritical posturing. Before I start kvetching about the inconsistency of some on Oil, let me layout my my prior positions. I have stated that:

Gasoline Prices (Adjusted for Inflation) are actually not too bad; That even with high Oil prices, the US pays relatively cheap gas prices; And that when you compare other "Refined" Products with Gasoline, it appears even cheaper.   

• Last Christmas, I explained why I was Bullish on holiday retail sales;

• For the past few years, I have railed against backing out energy from inflation measures (Inflation ex inflation);

• Finally, I noted in Stop Blaming Oil! that since October 2002, both Oil and the Nasdaq have doubled. The same demand factors driving the global economy were also responsible for sending Oil higher.

Why bring this up? Because philosophically, I have been very consistent: Dollar denominated Oil rose in response to ultra low rates AND global expansion. These energy price increases are inflationary; When prices drop, it bodes well for the consumer; Lastly, even at $3 gas ($70 Oil) its still cheap — but will pinch the lower end consumer.

With all that out of the way, here’s what I find infuriating:

• The Inflation ex inflation crowd is now saying dropping Oil prices lower inflation; On the way up, no inflation due to energy, but on the way down, whoopee! No more inflation!

• Rising Oil prices will not crimp consumers or retail, but dropping Oil prices are a huge plus for both;

• Increased energy consumption is a sign of global economic growth, but decreased prices will stimulate economic growth;

• Commodities were never in a major secular bull market — which is now officially over.

You can make many of the same arguments about Gold, also.

I do not insist that every strategist, economist and analyst reach the exact same conclusion, but there needs  to be some consistency and intellectual honesty in the arguments they make.

Heads we win, tails you lose is no basis for analysis . . .


UPDATE September 14, 2006 12:07 pm

Paul Kasriel, chief economist at Northern Trust, agrees that we should temper our enthusiasm for
lower oil prices:

"The stock markets have been buoyed
by the sharp decline in crude and attendant declines in nationwide gasoline, but
because the supply of oil hasn’t increased markedly, and because the global
tensions — Iran, Iraq — don’t show signs of changing, the decline in oil
prices must be due to falling demand — evidenced by a similar fall-off in other
commodities, such as copper, which is down 6% in the last month, and gold, off
7%, and zinc, down 4.4%."

Gushing Over Oil, WSJ


UPDATE September 14, 2006 10:27 pm

Hey! What good timing — Chart of the Day updates their Oil adjusted for Inflation


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What's been said:

Discussions found on the web:
  1. jmf commented on Sep 14

    spot on!


  2. emd commented on Sep 14

    you echo my sentiments completely… this is why i haven’t watched CNBC in over two months. i can not stand the blathering anymore. far better information and analysis in the blogosphere.

    keep up the good work

  3. knzn commented on Sep 14

    On the inflation issue, you have to separate direct effects from indirect effects. The belief that direct energy prices should be excluded from inflation measures does not imply that energy prices do not affect inflation. The ex-energy inflation rate has risen over the past few years in large part because of the indirect effect of rising energy prices. When this effect is reversed, we should expect the ex-energy inflation rate to decline.

  4. Craig H commented on Sep 14

    One of my favorite rationalizations going around now is that oil is falling because the risk premium is being extracted since the Iranians are being conciliatory on their uranium enrichment.

    Well excuse me but Iran is doing the same stalling and double-talking they’ve done all summer long and Nigeria (much more important to US and European gasoline supplies than Iran) still has a lot of unrest and production offline.

    But it suits the bull case for equities to credit the fall in oil prices on an imaginary resolution of geopolitical issues instead of blaming it on slowing growth.

  5. PAUL commented on Sep 14

    I always love the statement that our gas prices are lower than elsewhere – while holding your same breath – the telling that the other countries tax gasoline much higher than we do So we pay gas + 1X tax they pay gas + 4X tax. Why do other countries do this – because they can get the tax before it is volunteered – the foreign countries population do not pay taxes as well as we volunteer them – on a 1040. So comparing our gasoline prices with foreign countries without removing the tax factor – is not very bright and very redundant by IQ challenged folks.

    OK so lets discuss lowering Capital Gains tax, to increase taxes – What makes larry kudlow so smart?

    the lowering of taxes OF ANY KIND does not increase taxes.

  6. M.Z. Forrest commented on Sep 14

    I always thought *flation (de, dis, re, in) was a measure of price change irrespective of supply and demand. The fact that the NASDAQ and oils both doubled and a commodity boom to boot occured would indicate to me inflation. One could certainly argue that $70/bbl oil had a s&d component, but I don’t see anyone predicting $20-35 oil anytime soon. A legitimate argument could be made that the floor for oil has moved. For oil specifically, I think a reasonable argument would be that $10-$25 of the increase in oil over the past 6 years is inflation. That would translate into 6-14% inflation annually. This seems to be well within the range of non-fed analysts.

  7. Max commented on Sep 14

    The indirect effect of rising energy on the CPI is disinflationary as rising energy costs drive down the prices of energy consuming things like big cars and travel related items. So, removing energy from CPI is doubly dishonest since those things with downward price pressure are left in the CPI.

  8. jmf commented on Sep 14

    hi barry (from germany)

    i have a proposal.

    can you put the “spinningarguments/flip flopping” on other topics as deficits, labour statistics, strong $/weak $ etc.

    this should be a lot of fun!

  9. Mike commented on Sep 14

    I was focusing on the import and export prices numbers this morning, and both seemed to be inflationary (they increased more than expected). Obviously oil is down big, but don’t these numbers provide a little more insight in to the state of the economy at present? The import prices ex oil saw a large increase, but then a talking head on CNBC said the ex oil and ex all other fuels, the number was only +.2%. So then I thought, hell, import prices ex everything that went up was probably negative!

    Anyway, the market doesn’t seem to care about any of these numbers. Second, the retail sales numbers ex auto were below expectations, but I heard that retail gas sales were down so the number might even be “better”. It was also stated that retaurant and bar sales were up in the latest number, so I guess when people saw gas prices go down they went out and got drunk? Anyone want to throw in their 2 cents?

  10. snook commented on Sep 14

    not to chg the subject. before I forget>:
    So much for housing being a trailing indicator….Otherwise, I thik a few have seen this cke and eat it too phenom in oil/ inflation reasoning. I think the psycological aspect comes into play at a lower threshold on the way down in gasoline prices. That is people look for an excusse to spend because it FEEL GOOD…Lets see if all those building contractors buy new trucks for the holidays! Maybe not because their bank accounts FEEL BAD by then.

  11. OldVet commented on Sep 14

    Hi MZF, I think “inflation” is the rise in prices of a good or service, in the absence of a change in demand.

  12. John F. commented on Sep 14

    I’m no economist, so as a dumb mathematician I must ask: like “art,” “love,” “God,” (or for that matter “is”) doesn’t it depend on what the meaning of the word “inflation” is? It seems to me you and your antagonists are arguing past one another because you can’t agree on a definition. Again, I’m no economist, but it seems to me that in order to avoid DEflation, the money supply has to increase enough to absorb but not accelerate rising commodity prices. This increase will be passed along directly as a factor cost to the consumer. In reality, monetary policy has over-inflated the commodity balloon and created artificial scarcity elsewhere in the economy. Balanced monetary policy will drain the balloon somewhat and allow endogenous forces to determine which sectors of the economy are subject to inflation or deflation (e.g., the global nursing shortage or Moore’s law). Tracking inflation along that axis is a useful exercise both for studying the internal structure of the economy and the condition of the man on the street, but for the macro picture, I can’t think of anything more useful than isolating (i.e., “stripping out”) the effects of commodities, particularly that uber-commodity energy.

  13. Bob A commented on Sep 14

    Some of the best money I made last year was on energy stocks bought in November when some people were saying ‘oil is headed back towards the cost of production’ . So I really have to wonder… Has Iran been tamed? Will there be no more troubles in Nigeria. Have China and India gone into hibernation? Can not Russia, Iran and Venezuela scheme up enough tension to keep prices high? Is it perhaps a little too soon to make predictions based on falling oil prices?

  14. Brian commented on Sep 14

    Did somebody say gas prices?

    Rasmussen | September 14 2006

    Forty-seven percent (47%) of American adults approve of the way that President Bush is performing his job. Fifty percent (50%) disapprove. Those are by far the best numbers for the President since mid-February.

    Mission Accomplished!

  15. Jerome commented on Sep 14

    A continued weak hurricane season will serve to boost domestic oil production. I don’t think there is much weakening in demand – if you believe EIA data, gasoline demand is up a bit this year. Gasoline inventories are quite a bit higher than last year, so refiners are going to be able to crank out plenty of heating oil. And if we do get an El Nino winter, you should see less demand for heating oil.

    I won’t try to predict Iran or Venezuela’s next move, but let’s just say they don’t have very healthy economies outside of oil production. Are they willing to pay the steep price that would come from a supply-induced oil shock to the global economy? I think we should have an answer fairly soon.

  16. trader75 commented on Sep 14

    The tendency to bullshit is so deeply ingrained it is probably genetic. We are pragmatic creatures; we act in service to hidden goals, like peer acceptance and ego protection, without even realizing what those goals are.

    If you took a survey and asked people whether they considered themselves logically consistent, I imagine the vast majority would say yes. If you asked them what evidence they had to justify this belief, they would say ummmmm….

    From an evolutionary perspective, and even a day to day life perspective, logical consistency isn’t a survival advantage of any real consequence. (Like other animals, we are only naturally consistent where it counts–on the fight or flight level.) So why should logical consistency be present as a matter of course? From whence this ruse that “common sense” and logical consistency are anywhere near the same thing?

    Wall Street analysts are no better than the average joe. If anything they are worse, because they inflate the value of their own smarts. They have all this data at their fingertips, and fancy titles and connections… and yet their critical thinking skills are so poor, they are oblivious to the fact that their critical thinking skills are poor. On top of that, their bloated egos prevent them from catching any hints. They are consistent in their REAL goals–CYA, looking good, seeking approval etc–but those goals unfortunately have little to do with objective reality.

    It’s the Sixth Sense phenomenon. “I see clueless people… Walking around like regular people. They don’t see each other. They only see what they want to see. They don’t know they’re clueless…”

  17. financialrx commented on Sep 14

    BR: we’re seeing the same thing with interest rates. Fed raising rates: that’s because the economy is so strong; Fed stops/lowers: that’s good too.

    Those people are not hypocrites- they’re salespeople. They get paid to spin no matter what happens.

    What is troubling are the government officials- salaries paid with our tax dollars- that sell/spin in an effort to boost public confidence. Instead of just collecting data and laying out the cold hard facts-for better or worse- they spend every waking moment trying to “help” keep interest rates low, markets from falling, etc. THAT is what troubles me most is the meddling that prevents healthy creative destruction in our markets.

    The Greenspan Put is alive and well. All one has to do is look at credit spreads on Junk to see exhibit A.

  18. alexd commented on Sep 14

    Two things.

    One of the factors on the Price of fuel might be that other developed countries pay for their citizens health care. The money has to come from somewhere. could it be from taxes?

    Secondly what about the change in the worth of the dollar versus a barrel of oil. Seems to me if I was sitting on a few barrels of crude and it was denominated in a bvarying currency I would do what I could to keep the relative value of each barrel as consistant as possible. This leaves out inflation but that is there too.

  19. lurker commented on Sep 14

    Enough chat about black gold, anyone noticing the rude spanking the yellow metal is taking today. The dead cat is getting pounded for not bouncing the way it should have when we hit oversold two days ago…any theories on why gold stocks are dropping so fast????

  20. kevin_r commented on Sep 14

    Perhaps the fall in oil and other commodities is financial, not economic. Liquidity being drained rather than demand falling.
    I theorize that if the cause is demand, then the fall should be greatest in commodities with short supply lines and smallest in commodities with much reserve supply between production and use.
    How much demand for gold is economic and how much is financial? Gold falling along with oil suggests liquidity draining or other financial factor.
    I welcome alternative (especially more informed and more accurate) explanations.

  21. Mike commented on Sep 14

    Does anyone else think the .4% increase in auto sales this month is a little suspect? It doesn’t seem to jive with other data coming out of the auto industry lately.

  22. Cherry commented on Sep 14

    Thank you Barry, for coming onto my side of it.

    While the lower income consumer was getting pinched, for the biggest drivers of growth this expansion, they have not, because adjusted for inflation, this is no shock. Now, get up to 100-150, things get shocky.

  23. Brian commented on Sep 14

    Barry, what’s your position on the oils and gold. Do you stick with the long term trend (i.e. this would be a buying opportunity) or do you think there is a change in the longer term trend? I’m in a bit of flux commodities, gold and oil are trading below their 200 day MA’s and oil hasn’t been this weak on the RSI in 3 year’s. I’m still bullish but I feel like the fed could be using the oil market to help negotiate their “soft landing”. Any thoughts??

  24. traderb commented on Sep 14

    despite PAUL claiming you’d have to be IQ challenged to compare Oil prices in different countries due to the tax rates (although I didn’t follow his argument)…

    …a gallon of gas (“petrol” in the Queen’s English) is $7-$7.50 here in the UK. Has been pretty much that for years. Doesn’t stop us from driving.

    Oil is still going back to $30 a barrel though. Because OPEC can pump it for $20.

  25. S commented on Sep 14

    The biggest “tell” on oil was the day the world learned BP was taking Prudhoe Bay offline. We intitially thought 400,000 barrels per day of global supply would be lost until early next year…and yet oil fell over $2 that day. It’s been falling every since.

    And why not? Oil inventories haven’t been this high since 1999 when oil was priced at $20/barrell. There’s a glut of oil, storage capacity is tight, and it’s still $63.

    Demand is apparently holding up, but with U.S. GDP growth slowing from 5.6% in 1Q to 2.9% in 2Q, how much longer can we expect that to be the case?

    Oil goes lower.

  26. calgarycanada commented on Sep 14

    Calgary AB Calling

    1. I don’t see any layoffs here.

    2. Remember we have to shut down some of our production when the snow melts and we can’t move equipment. After a cold winter and still in the cold spring.

    Are you sure you have enough inventory?


  27. calgarycanada commented on Sep 14

    Calgary Calling

    By the way I had to turn on the furnace today and expecting a high of 3 tomorrow ….earliest in years.

    I’m not in the business.


  28. blam commented on Sep 14

    The financial risk level is off the charts and individual investors are asleep. The market does not feel right, low volume ascendency with non-stop wall street crap.

    Commodities, especially the metals, are the 2006 version of the 2000 NASDAQ. Oil is not the only commodity that has been run up in the face of ample supply. Copper demand peaked nine months ago.

    Tomorrow may be the beginning of a real bad rebalancing – the moment of truth when everyone realizes at the same time that we’ve been had. especially during the summer. I guess we’ll find out.

  29. TC commented on Sep 14

    The reason why Rising Oil Prices didn’t evoke sharp fears of inflation was to a large part due to the rising productivity mantra, which offset raw material price increases. And truly productivity did rise. Now when productivity gains appear to be exhausted, isn’t it amusing to note that economists can point to the sliding oil & material prices to once again say that inflation is not a threat. Talk about Market Timing. Simplistically speaking,

    Rising Oil Prices – Strong Productivity Gains = ‘Fed-Managed’ Inflation

    Falling Oil Prices – Weak Productivity Gains = ‘Fed-Managed’ Inflation

    Fed-Managed inflation being an inflation range that keeps the Fed on top of inflation, and sustains the market perception that the Fed has inflation in-control.

    Now I do believe that we may get a jolt of inflation here and there, but it will not be an issue acute enough to push the Fed again into raising interest rates. We will find out soon.

  30. At These Levels commented on Sep 14

    More on Oil

    Well said. And about the CPI tomorrow at 8.30 am, this is where Dirty Harry would ask: You’ve got to ask yourself one question: ‘Do I feel lucky?’….Well? Do ya, punk? . I forget, but I don’t think the punk made it.

  31. A Dash of Insight commented on Sep 14

    Inconsistent on Oil: heads we win, tails you lose . . .

    At A Dash we expect to add value for our investors and readers by following a disciplined method. Barry Ritholtz explains his method (and ours) clearly and effectively in this story. Take a look, and then come back for our

  32. JGarcia commented on Sep 15

    Oils/commodities have been a crowded (spec driven) trade for a few years now. Oil inventory has been at record levels, as well. There are tankers sitting at docks with no room to store it. Futures markets have been over estimating the risk factors. Now they will pay the price of being in the “wrong” crowd.

    The recent el nino predictions have been the tipping point — few hurricaines (easterly windsheer) and predictions of a mild NE winter. T Boone had a good run…perhaps too good, as he attracted the “easy trade”, and the populace that comes with the hot dot trade. This is good news for the economy, stocks and all of us. Why fight it?

  33. Craig commented on Sep 15

    For Calgary and anyone else interested……

    Run a four or five year chart on the oil trusts operating in Calgary. You will see most are showing a top and some have broken trend and are heading down.

    They may improve some from these levels but it won’t help the chart or trend down. Oil is done for the moment.

  34. A Dash of Insight commented on May 7

    Inconsistent on Oil: heads we win, tails you lose . . .

    At A Dash we expect to add value for our investors and readers by following a disciplined method. Barry Ritholtz explains his method (and ours) clearly and effectively in this story. Take a look, and then come back for our

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