Monday, March 12, 2012, 8:30 PM: Thank you, Bill, for keeping those predictions updated. I think my traveling is now done. As far as another hike this week over $4, it is a possibility, but I think we are safe for another day or two.
I want to discuss the question of whether or not speculators are responsible for this recent surge of prices from nearly $3 to practically $4. It is true that retail prices are based on prices which are set further up the supply chain by the futures markets. I like what Wikipedia has to say about the history of futures markets: “Gluts and shortages of these products caused chaotic fluctuations in price, and this led to the development of a market enabling grain merchants, processors, and agriculture companies to trade in … contracts to insulate them from the risk of adverse price change and enable them to hedge.” Farmers, for instance, could work out a futures contract in July to sell their grain in September. The farmers would deliver their grain in September to processors, who would pay the farmers what they agreed to in July.
These days, though, there is a lot of speculation in the futures markets. In fact, anyone with a stock brokerage account can speculate on future gas prices by buying and selling an ETF with symbol UGA. The people who run the ETF buy and sell futures contracts in gasoline. They aren’t interested in “delivering” gasoline, or, as a food processor would, “taking delivery”. They just want to profit from changes in the price of gasoline. And you can, too!
As a result, prices aren’t based as much on the supply and demand for gasoline anymore. They are based on the moods of speculators. As a consequence, price moves are magnified — in both directions! As an example of a steep sell-off in the futures markets, back in January, orange juice futures dropped 10% in one day, after hitting a record high. The “chaotic fluctuations” are back!
With orange juice, though, as consumers we are shielded from these incredible moves in the futures market, because groceries stores don’t play “the orange juice game”. However, gasoline retailers, led by Big Red, don’t shield us from the day-to-day moves in the gasoline futures markets. In the long run, the price of gas probably does reflect supply-and-demand. In the short run, though, speculation magnifies moves up and down. Right now, we are dealing with a magnified move up.
Using my daily records, since Election Day 2008, the average price of gas in Grand Rapids has been $2.90 a gallon. It got as low as $1.45 and as high as $4.29. $2.90 is probably a good reflection of supply meeting demand these days. Most everything else has been trading-related nonsense.