Tuesday, April 12, 2011

Current Thoughts on Oil Prices

(originally published February 2011)

Not long ago I did an interview with a reporter who asked me if I thought higher oil prices would hurt consumers and more specifically consumer spending in the gaming industry on the Las Vegas Strip.  I was also asked if I thought oil prices would continue to increase.  The conversation occurred before the recent revolution emerged in the Middle East.  The concern over energy prices was triggered by the price rise in energy following the Federal Reserve’s announcement to move forward with QE2.

My answers to the questions are as follows:

Will higher oil-gasoline prices hurt consumers and more specifically consumer spending within the gaming industry on the Las Vegas Strip?

My answer is a qualified yes as higher energy costs impact household budgets and dollars available for overall and discretionary consumer spending.  More specifically, for activities such as discretionary spending on the Las Vegas Strip the negative impact of higher gasoline and energy prices can come from at least four levels as follows:

1)    The direct impact on the cost of a trip to Las Vegas via plane or automobile.
2)    The negative impact on household budgets due to higher fuel costs.
3)    The negative impact on other goods and services consumed by households as the price of oil affects many if not most input costs of many goods and services in the economy.
4)    The negative impact on overall consumer confidence.

In my opinion, the nuance here is that pace of change in energy prices may be as important as the magnitude of the change.  My sense is that various supply and demand factors can successfully adjust to more gradual upward moves in energy prices over time which dampen the impact of the change itself, while sharp price rises are generally more damaging to consumers due to the lack of short-term ability to adjust to the change.  An example is the type of cars consumers drive vis-à-vis gasoline consumption in light of gasoline prices as car ownership patterns are more adjustable to long-term changes in gasoline prices than short-term changes. 

Do I think gasoline prices will continue to rise?

At the time I was asked the question revolution had not broke out in the Middle East.  In light of recent events in the Middle East the answer appears to be yes for the time being.  At the same time I must say that I cannot reliably predict the price of oil and gas beyond the current period of turmoil in the Middle East.  At the time I was asked this question I sat down and penned a partial list of factors that impact oil and gasoline prices as follows:

1)    OPEC production decisions and activity.
2)    Actions by Iran and Venezuela.
3)    The value of the U.S. dollar.
4)    Non OPEC supply factors.
5)    Weather.
6)    Chinese, U.S. and worldwide demand factors.
7)    Hedge fund industry speculation activity.
8)    Refinery outages.
9)    Levels of worldwide economic growth.
10) Peak oil issues.
11) U.S. spring – summer peak driving season.
12) Terrorism.
13) Federal Reserve actions.
14) Government actions in regard to energy prices and supply.
15) The price of oil and gasoline itself.

I can now add revolutions in North Africa and the Middle East.  In other words, a whole host of factors drive energy prices that are not easy to reliably predict over time so in my opinion a question that arises in connection to energy price movement is, to hedge or not to hedge? The answer is, it depends!

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