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Hedge Funds Aggravate Oil Price Hikes

Posted July. 08, 2005 05:19,   


Hedge funds recovered their losses thanks to the oil market(?)-

The international oil market since last June has been characterized by excessive inflows of speculative funds in the futures market.

The net long position was negative last month, but turned positive in June, according to the weekly report on the oil index futures contracts by the New York Mercantile Exchange (NYMEX). In particular, the net long position, which was 1,357 contracts on June, has increased more than 15 times to 22,008 contracts in just three weeks.

The oil index futures contract, which is based on the volume of oil traded to gain arbitrage, is mainly traded by speculative forces including hedge funds.

In contrast, the net long position of commodity futures contracts was -4, 146 contracts on June 21 and -6,494 contracts on June 28, indicating that there were more sell orders than buy orders.

The prevailing view is that hedge funds are gravitating to the oil market in order to restore their profits lost in the stock market.

Hedge funds are known to have suffered great losses due to the drop in the credit ratings of General Motors and Ford and to the fluctuations of the U.S. dollar value.

They, however, recovered part of their losses after entering the oil market. The “June crisis” rumor that the financial market would fall into chaos because of massive redemption by hedge funds, ended as nothing more than a “hypothesis.”

According to the Hennessy Group, a U.S. market research company, the average profit rate of hedge funds was the lowest (―1.75 percent) since 1999, but slightly recovered to 1.3 percent in June.

Speculative Funds Will Remain in Oil Market-

Experts are predicting that hedge funds will remain in the oil market for a while as it could be difficult for them to find an investment target with a higher profitability than oil futures this year.

“The international oil price hike is due to not only the imbalance of supply and demand but the high liquidity supplied to the commodity market” said the Wall Street Journal (WSJ) recently. “Now, oil is traded like stocks.”

The Organization of the Petroleum Exporting Countries (OPEC) has reached its full capacity of oil production. In addition, oil majors and exporting countries have not invested in production facilities and thereby are not able to increase their production in a short period of time, which supports the prediction that the tyranny of speculative funds will last for a while.

Therefore, the dominating view is that there will be a vicious cycle of short supply leading to price hikes, which, in turn, will draw speculative funds and, ultimately, additional price hikes.

“There are overriding concerns that the supply and demand of oil will get more unstable at the end of the year when the Northern Hemisphere is in winter,” said Lee Moon-bae, an analyst of the Korea Energy Economics Institute (KEEI). “Such circumstances will create more reasons for speculative funds to enter the oil market, making it difficult to resolve the oil price hike for a while.”

Ki-Jeong Ko koh@donga.com