When will the oil bubble pop? Should you jump into energy stocks?

Oil futures soared to a record $133.82 today as prices continued to spike into dangerous territory for most futures speculators and investors in major integrated petroleum companies and smaller petroleum exploration companies.

For months, many skeptics have been asking, when will the oil bubble pop? And some have fearlessly predicted an end to what they see as an over bought market. They’ve spoken too soon—so far.

Stock pickers have been having a field day in the energy patch. Little stock research has been needed, or so it seems.

All bubbles pop sooner or later, but the oil bubble has a thick skin, and there are plenty of analysts who are predicting that oil futures will hit $150 by the end of the year and $200 sometime in the next couple of years.

Why are oil prices surging when there is more than enough oil sloshing around the spot, or cash markets, according to today’s Wall Street Journal?

Well, the Journal apparently was wrong, because new bullish inventory reports released today sent prices soaring again. Oil futures are up 39% since the beginning of the year and up 17% so far this month according to wsj.com.

One of the big changes in the oil futures markets over the last couple of years, according to Reuters’ Barbara Lewis, is that the futures market has shifted to pricing for the long-term from the near term. On Wednesday, according to wsj.com, December 2016 settled at $142.09 a barrel.

This means that futures prices may not be doing a good job of finding prices for today’s markets, and they sure can’t be counted on to be setting accurate prices for 2016. If the markets can’t accurately project prices for the near term, how can they be expected to find prices for 2016?

Historically, futures markets, which have thousands of participants, have done pretty good jobs of predicting and finding prices and predicting events, including the outcomes of presidential elections.

But now that the fundamental structure of the futures markets has changed, as outlined by Lewis, one has to wonder whether the futures markets are over pricing the nearby contracts. And are their 2016 prices fairy tales?

In addition to seeing speculators in oil futures take a longer view, analysts see more institutional players such as pension funds, exchange traded funds and hedge funds. They are taking positions in commodities in an effort to diversify their portfolios. And they have more resources and patience than traditional speculators. They apparently have more tolerance for pain when the markets go against them aren’t as quick to take profits when the markets go their way.

This suggests that the bubble could continue to inflate longer than many expect, because profit taking isn’t as likely to hit the market as soon it probably would have in the good old days.

The contrarian view could be that institutional money managers may not have their own money in the game, but their jobs are on the line. They have less trading experience and expertise than long-time individual speculators, and they can be spooked into taking profits just like anyone else.

Yes, the big boys have black boxes that tell them when to trade, but even black boxes can be fooled—and over ridden or disobeyed when money managers get nervous. If they’re not nervous now, they should be.

Where does that leave the individual stock trader and investor?

With oil futures and the stocks of petroleum companies as pumped up as much as they are, be careful.

If you haven’t been in the market for quite a while and don’t have a nice cushion for the coming correction, it’s probably too late to jump aboard the petroleum bull market. Let it run, and look for less risky opportunities elsewhere.

If you’re in the game and have a great profit, don’t be greedy. Know your trading capabilities and your tolerance for the pain that will come.

Will oil hit $150 this year, $200 soon after? Anyone who says he can predict futures prices is out on a limb, to say the least.

Here are some pretty spiky charts. Note what can happen to a high flyer. See Valero (VLO).

Investor’s Business Daily lists these 10 stocks as the hottest energy stocks. Click on any chart to see weekly and point and figure charts.

These bubbles have to burst, but no one can predict when that will happen.

Trade accordingly.

Full disclosure: I don’t have positions in any of these stocks nor in the futures markets.

For educational purposes only. Investigate stocks on Reuters.com, Yahoo.com and Google.com. Also, search the web for information.

Commenting is not available in this weblog entry.

<< Back to main