Banks that pump dollars in oil futures may be driving up prices

WASHINGTON – Oil and gasoline prices are rising fast as Memorial Day weekend approaches, but not because supplies are tight or demand is high.

U.S. crude oil inventories are at their highest levels in almost two decades, and demand has fallen to a 10-year low, but crude oil prices have climbed more than 70 percent since mid-January to a six-month high of $62.04 on Wednesday.

Meanwhile, although refiners are operating at less than 85 percent of capacity, leaving them plenty of room to churn out more gasoline if demand rises during the summer driving season, the price of gasoline at the pump has climbed 28 cents a gallon from a month earlier to $2.33.

This time, Wall Street speculators – some of them recipients of billions of dollars in taxpayers’ bailout money – may be to blame.

Big Wall Street banks such as Goldman Sachs & Co., Morgan Stanley and others are able to sidestep the regulations that limit investments in commodities such as oil, and they’re investing on behalf of pension funds, endowments, hedge funds and other big institutional investors, in part as a hedge against rising inflation.

These investors now far outnumber big fuel consumers such as airlines and trucking companies, which try to protect themselves against price swings, and they’re betting that the economy eventually will rebound, that the Obama administration’s spending policies and Federal Reserve actions will trigger inflation – or both – and that oil prices will rise.

“They’re buying because they think it will diversify their portfolio, and they think it will diversify their portfolio against inflation, and maybe they think the economy will turn around,” said Michael Masters, a hedge-fund manager who testified before Congress last year about the consequences of what are called exchange-traded funds.

Oil contracts are traded mostly in U.S. dollars, and inflation would erode the value of oil earnings, stocks or any other asset denominated in U.S. currency. Many investors are pouring money into oil futures – contracts for future deliveries of oil at specified prices – in the belief that oil prices will rise as inflation erodes the dollar’s value.

This turns oil futures contracts into a way for investors to hedge against inflation at the expense of American consumers, who have to pay more to fill their gas tanks as oil and gasoline prices rise.

Masters and other critics say this speculative flow of money into commodities markets is a self-fulfilling prophecy that’s distorting the usual process by which buyers and sellers set prices and is driving up the prices of oil, gasoline, grains and other essentials.

“There is definitely an inflation premium at work here,” said John Kilduff, a senior vice president of MF Global in New York, a brokerage house that helps large investors trade in energy markets.

In a report May 6, CNBC television senior energy correspondent Sharon Epperson said that traders told her that prices were disconnected from supply and demand.

“Nymex traders tell me they’re seeing new money coming in from passive funds that are reallocating assets away from precious metals and into energy holdings. It’s this money flow – rather than the fundamental supply-demand data – that’s driving oil prices higher,” she reported.

Morgan Stanley didn’t respond to requests for comment via e-mail and telephone.

“Goldman Sachs declines to comment for your story,” spokesman Michael DuVally said.

In a report April 16 on last year’s spike in natural gas prices, the Federal Energy Regulatory Commission concluded that similar investment flows drove up the price that consumers paid to heat their homes with natural gas.

“This increase in commodity prices occurred as large pools of capital flowed into various financial instruments that essentially turn commodities like natural gas into investment vehicles,” the report says. “Ultimately, we believe that financial fundamentals … explains natural gas prices during the year.”