"THE SUMMER OF THE GREAT SEDUCTION"
COLORADO WYOMING PETROLEUM MARKETERS ASSOCIATION CONVENTION
COPPER MOUNTAIN RESORT, COPPER MOUNTAIN, COLORADO, AUGUST 10, 2008

This was the spring and summer of a great seduction on Wall Street. People really thought oil would be the best place to park money. It hasn't been. A lot of people don't realize that the market can seduce all of us to believe there is nothing wrong with $150 bbl oil or $200 bbl oil or $250 bbl doesn't seem out of the ordinary.

The oil market is a lot like Cher. There is an awful lot of artificial components that have pumped it up. But in the end mother nature is going to take its course and real fundamentals are what's going to determine where prices are going.

Crowd behavior, more than anything else, has had more to do with what has happened with oil prices in the last year.

If you ever think that the crowd can't go that crazy or swing that wildly to a manic stage, you're probably wrong.

Financial companies and oil futures are now married. One of the biggest players in the oil business is now Barclay's Bank. There's no longer 'here is the bank and here is the futures' division. They are intertwined.

Playing the inverse was a great strategy in the first seven months of 2008. If the stock market was down, the futures market was up — and vice versa. Oil and blue chips moved in disparate directions some 70% of the time. This had a lot to do with the run-up of oil prices.

Oil prices have a deleterious effect on the economy. If the stock market performs poorly for the remainder of 2008, it's going to be very, very difficult for oil prices to go up. And if oil prices go up, it's going to be very difficult for stock prices to go up. They don't really have an inverse relationship.

Most of the futures trading happens in the electronic trading space. You don't see the guys on the floor. This takes away some of the liquidity because you don't know if it's the guy from Merrill Lynch who's making the trades.

We've traded well, well beyond what US companies will produce in the first hour or trading. The volumes, when you look at the volumes, are just absolutely staggering. By the time you actually go through the first day of trading, we are seeing volumes of 600,000-800,000 contracts per day representing 800 million barrels of crude per day. If you're watching the screen in the last 20 minutes of the trading day, you're watching hundreds of millions of contracts traded. There is gamesmanship and there is gamesmanship at the end of the day.

There was a very quiet revision by the commodities traders revision commission that has boosted by nearly 25% the number of oil futures contracts U.S. regulators think are held by speculators. This revision means that speculators controlled 48% of the open interest in NYMEX crude oil futures. They're buying the dollar and shorting oil. They're shorting stocks and buying oil. They're trading thousands of contracts. Their time horizon for making money could be a few minutes.

This will end badly. It's not just the consumers that are being gored by the energy bull. It is marketers and this year it's the refiners, too. Everyone, with the exception of the oil producers have been gored by these high oil prices.

If you're in the oil business or if you move oil cargos, you're considered commercial and non-speculative. There are some big companies out there like Merrill Lynch, Bear Stearns, big off-shore traders, who do tremendous amounts of opportunistic trading which I consider speculative. They're looking to make money on the move they're speculating on.

What to expect in the next year or so:

There is a lot of refinery capacity coming on-line in the United States in the Gulf Coast. There are some small amounts here in the Rockies. Globally, it will be about 12 million barrels per day of refining capacity scheduled to come on-line.

In PAD 5, gasoline output additions will be 104,000 b/d by 2014.

Ethanol has had a tremendous impact on the supply-demand balance. The bottom line, notwithstanding politics, is that ethanol has replaced several million gallons of traditional gasoline this year and we're not over yet. I think that E10 is going to be the default grade through most of the country through the end of next year.

China is the 21st century rock star. China has 1.33 billion people. Oil production is 3.7 million barrels per day. It's a young country - the average age is 37. Their GDP growth is 11.4 %. If you take the amount of refined products in China, you have 6.1 million kilometers of pipeline space in the country. In the same analysis, you can count 244.6 million kilometers in the United States. I don't know about you but I think it's difficult to bring in a lot of crude oil and then just store it. Maybe China is not as advanced in their appetite for crude oil as we think it might be. It's very difficult to continue a GDP growth of 11% without some sort of crash and we wonder what that will do to the price of crude oil.

India has a huge refinery in Jaipur. It is a big ass refinery. It is going to be throwing out so much diesel to the U.S. West Coast by the end of this year that it may change the entire market. There are big refineries in Korea and other southeast Asia countries coming on line. It might make the West Coast or the Western half of the United States a much different animal than it's been for the past few years.

The Rocky Mountains really doesn't have any margin for error. Because of the population growth, because of the relatively low amount of storage capacity, you're always playing on the edge in terms of having supply. If you have a refinery go down or if you lose some product, this is an area that's at risk like no other area of the country.

The lowest prices paid for gasoline in the country are generally paid in places like northern New Jersey, western Connecticut and it's about 2% of their disposable income. The worst place in the country was the rural South. In Colorado, it didn't make that much difference in disposible income. In Wyoming, it's really up there, at 11-12%, to the point of pain, to the point where consumers might consider cutting back.

I think $147.27 is the high for 2008 crude. Events are required to bring us there again — problems in the Middle East, severe Ivan or Katrina-like hurricanes.

Forecasting crude is witchcraft. Forecasters have underestimated the price of crude by an average of 35% since 1999.

Despite $200 bbl forecast, even Goldman Sachs says a normalized price is $75/bbl. They raised that from $60. Even the die-hard bulls say when it's all over and all this movement of money is over, that's about where the price of oil should be and I don't disagree with that.

What does this all remind you of? We marched in incredibly fast rate to $147.27 bbl. A lot of people have used the term bubble. But if you do step back, does it remind you of the housing bubble or the internet bubble. It reminds me of the housing bubble. When you look at crude oil, we clearly got carried away. But oil and oil futures are an asset class. It won't really collapse all the way. Some internet stocks were huge and then fell to nothing.

U.S. gasoline demand and diesel demand have been overstated. We are not using diesel 2-2.4% more than we were last year and that was the projection. The rest of the world — I'm not so sure.

There is this tendency in Wall Street and among pundits to go for the cheap line. It's either to the moon or in the toilet.

Diesel is a hot product but it's really cooling off. It will really cool off when the Indian refinery gets going. The notion of diesel trading for $20, $30 per gallon over gasoline may be a past notion.

The Strategic Petroleum Reserve will be in play and may be used as a weapon. Senator McCain or Senator Obama may threaten the sale from the SPR. We know that Senator Obama wants to swap out some sweet crude for some heavy crude.

All commodities remain interconnected. Grains, oils, metals, whatever. Corn got to $7. Gold got well above $1000. As they're correcting, billions of dollars have gone out of commodities and back into more traditional investments.

With one exception — natural gas — every commodity has many more people speculating than are actually involved in the market. I think that's because natural gas has no play in China and India.

What you can count on: oil prices will become sloppy drunk. It is the nature of these markets.