The headline on the story last week might have gone something like this: "Peace breaks but in gulf, we'll be paying more for gas."
No non sequitur there. It was just a typical day in the oil futures market, where headlines--of good news or bad--can move prices faster and further than any fundamental law of economics.On July 18, world oil markets got wind of a possible cease-fire agreement in the 8=year-old war between Persian Gulf protagonists Iran and Iraq. Prices for future delivery of crude oil shot up nearly $1 a barrel to near $16.
The increase was bullish news for oil traders, who had languished through the summer watching prices sink far below the official OPEC price of $18.
But wait a second. Shouldn't peace in the war-torn gulf be bearish news for prices? After all, you figure prices should drop in an already glutted market if they stop mining the waters and shooting at ships. Right?
Wrong. Peace was viewed that particular Monday as a sign the fractious Organization of Petroleum Exporting Countries might seize the opportunity to cut production and bolster prices.
There has been a lot of cheating going on in the cartel, particularly by the war's combatants who have been pumping oil to finance their fight. If they suddenly decide to lay down their arms, it is also possible the cartel members could get together on production and pricing.
Instant analysis aside, is peace really bullish or bearish for prices?
"You could argue that one until the cows come home," answered one trader eager to move on to more definitive issues last week.
Traders never seem much in the mood for long-winded debates. Why let fundamentals, like supply and demand, confuse the picture? The real action comes off the headline, no matter what it says.
Just last year, prices were also on the rise in mid-July, but the news in the gulf was very different. Tensions were high, and Iran was threatening to sink any oil tankers moving through the region under the protective flag of the United States.
In response to that news, prices surged above $22 a barrel for the first time in 18 months on the theory that heightened hostilities would lead to at least a temporary cutoff of oil shipments.
A quick review of a reporter's notes on the war-price relationship over the last 12 months would therefore produce the following rock-solid formulas:
1. In the summer of 1987, war equaled higher prices.
2. In the summer of 1988, peace equals higher prices.
Applying such axioms to the oil market will not earn high marks when supplies are plentiful and traders look to the news to create come precious volatility.
Of course, the apparent contradiction makes perfect sense to the oil traders themselves. War in 1987 threatened involuntary restraints on oil supplies; peace a year later holds the promise of voluntary limits imposed by the rejuvenated OPEC.
Elementary, perhaps, for a commodity trader, but dangerous for the rest of us, who want to know only if the price of gasoline is going up before we fill up for the summer trip to grandma's.
The advice from one expert, Bob Baker of Prudential-Bache Securities Inc., is to watch the paper for more than a day or two before jumping to conclusions.