LONDON - Traders in oil and other booming commodities markets, whose prime focus was once short-term supply and demand, have shifted attention to fundamentals over a much longer timescale.
The change has been signaled by record-high oil prices for contracts stretching out to 2016, as well as for prompt delivery, as institutional investors and end-users alike take the longer view.
"The futures market was designed as a short-term hedging tool, but has been taken over in the last couple of years by financial players pricing in a multi-year outlook," said Olivier Jakob of Petromatrix.
"The fundamentals rule, but the question is whether the futures market should reflect the fundamentals of the next few months or the next few years."
Front-month U.S. futures hit a record on Wednesday of more than $130 a barrel, while contracts for delivery in 2016 exceeded $140.
The latest short-term factor in focus for oil is the tight supply of diesel.
But that is a symptom of long-term underinvestment in refining capacity and traders, who once concentrated on short-term inventories, are ever more focused on the future supply-demand balance.
Although high prices have eroded consumption, supply growth is not expected to keep pace and oil even at current levels might not guarantee investment in additional production.
"The back end of the curve is a proxy for the long-term sustainable price," said Paul Horsnell of Barclays Capital.
Open interest, a measure of market activity, for U.S. 2016 crude has risen to more than 3,000 lots up from below 1,000 in January.
The December 2008 contract has more than 200,000 lots of open interest, less than the roughly 370,000 lots on the front-month July U.S. contract, but still a very high level.
"It seems some market participants are better understanding the longer term fundamental story (than they were) and that's probably being reflected in the longer end of the WTI (oil) futures curve," said Evan Smith of Texas-based U.S. Global Investors.
INVESTMENT CLASS MONEY
The gradual shift from the near term has followed the arrival, beginning around 2000, of institutional investors, such as pension funds and insurers who buy in for the duration.
Above all, they want to balance an investment portfolio, as commodities can offer a hedge against inflation and tend to perform well when asset classes such as equities are weak.
Given they are not seeking speedy returns, any temporary changes to the supply-demand picture have limited significance.
Classically, these investors bought into vehicles that gave them exposure to the front end of the pricing curve, although as long-only participants, they sustained that position for years.
Increasingly, they are not only staying in the market, but using investment tools that lock into contracts for later, as well as prompter delivery.
"Near-term contracts tend to be much more volatile," said Matthew Sena, a fund manager at New York-based Castlestone Management.
"By focusing on the longer dated contracts, your returns will be based more on ... the fundamental supply and demand imbalances that we are seeing across a lot of commodities."
SHORT TERMISM OF THE PAST
For many, taking the longer view is overdue.
"There was too much short-termism in the past," said one oil trader who asked not to be named. "The focus on long-term contracts is both a function of increased analysis and an increasing view the supply picture beyond 2012 will be tight."
The prompt oil price remained high last week, largely dismissing news of a 300,000 barrels per day rise in output from the world's biggest oil exporter Saudi Arabia, as well as increases from Iraq and Iran.
"A supply response is not as simple as asking the Saudis to flip a switch as Washington found out last week," said Smith, referring to U.S. President George Bush's plea for more oil.
One of the most high-profile advocates of taking the long view is investment bank Goldman Sachs, whose research last week predicting oil prices would average $141 a barrel in the second half of this year, helped to push prices to a then record.
"The long end of the oil curve has rallied significantly signaling long-term supply/demand tightness," it said.
Increased flows of fund money into commodities, including investment and speculative funds, had boosted prices, but that did not mean the price was not real, Goldman said in a note.
"The fact that tight oil supply/demand fundamentals are attracting large amounts of capital is a good thing. Higher oil prices signal to oil companies the need for greater investment. Higher oil prices also signal to consumers the need to demand less."
The change has been signaled by record-high oil prices for contracts stretching out to 2016, as well as for prompt delivery, as institutional investors and end-users alike take the longer view.
"The futures market was designed as a short-term hedging tool, but has been taken over in the last couple of years by financial players pricing in a multi-year outlook," said Olivier Jakob of Petromatrix.
"The fundamentals rule, but the question is whether the futures market should reflect the fundamentals of the next few months or the next few years."
Front-month U.S. futures hit a record on Wednesday of more than $130 a barrel, while contracts for delivery in 2016 exceeded $140.
The latest short-term factor in focus for oil is the tight supply of diesel.
But that is a symptom of long-term underinvestment in refining capacity and traders, who once concentrated on short-term inventories, are ever more focused on the future supply-demand balance.
Although high prices have eroded consumption, supply growth is not expected to keep pace and oil even at current levels might not guarantee investment in additional production.
"The back end of the curve is a proxy for the long-term sustainable price," said Paul Horsnell of Barclays Capital.
Open interest, a measure of market activity, for U.S. 2016 crude has risen to more than 3,000 lots up from below 1,000 in January.
The December 2008 contract has more than 200,000 lots of open interest, less than the roughly 370,000 lots on the front-month July U.S. contract, but still a very high level.
"It seems some market participants are better understanding the longer term fundamental story (than they were) and that's probably being reflected in the longer end of the WTI (oil) futures curve," said Evan Smith of Texas-based U.S. Global Investors.
INVESTMENT CLASS MONEY
The gradual shift from the near term has followed the arrival, beginning around 2000, of institutional investors, such as pension funds and insurers who buy in for the duration.
Above all, they want to balance an investment portfolio, as commodities can offer a hedge against inflation and tend to perform well when asset classes such as equities are weak.
Given they are not seeking speedy returns, any temporary changes to the supply-demand picture have limited significance.
Classically, these investors bought into vehicles that gave them exposure to the front end of the pricing curve, although as long-only participants, they sustained that position for years.
Increasingly, they are not only staying in the market, but using investment tools that lock into contracts for later, as well as prompter delivery.
"Near-term contracts tend to be much more volatile," said Matthew Sena, a fund manager at New York-based Castlestone Management.
"By focusing on the longer dated contracts, your returns will be based more on ... the fundamental supply and demand imbalances that we are seeing across a lot of commodities."
SHORT TERMISM OF THE PAST
For many, taking the longer view is overdue.
"There was too much short-termism in the past," said one oil trader who asked not to be named. "The focus on long-term contracts is both a function of increased analysis and an increasing view the supply picture beyond 2012 will be tight."
The prompt oil price remained high last week, largely dismissing news of a 300,000 barrels per day rise in output from the world's biggest oil exporter Saudi Arabia, as well as increases from Iraq and Iran.
"A supply response is not as simple as asking the Saudis to flip a switch as Washington found out last week," said Smith, referring to U.S. President George Bush's plea for more oil.
One of the most high-profile advocates of taking the long view is investment bank Goldman Sachs, whose research last week predicting oil prices would average $141 a barrel in the second half of this year, helped to push prices to a then record.
"The long end of the oil curve has rallied significantly signaling long-term supply/demand tightness," it said.
Increased flows of fund money into commodities, including investment and speculative funds, had boosted prices, but that did not mean the price was not real, Goldman said in a note.
"The fact that tight oil supply/demand fundamentals are attracting large amounts of capital is a good thing. Higher oil prices signal to oil companies the need for greater investment. Higher oil prices also signal to consumers the need to demand less."
