Bitcoin hits $1000. Where is it going?

I’m bullish on Bitcoins, from a price perspective and also from a technology perspective.

Like many out there, I’m kicking myself for not jumping on the bandwagon sooner. I remember when they were $5 and I was first reading about them. I remember when they were less than $1 per coin, and my office computer could mine about 1 per week, thinking it wasn’t worth the electricity cost. I remember wanting to buy 200 of them at $10 each as a speculation play with our InvestorGeeks ad money, and then wanting to use my own money.

At those times, buying Bitcoins was harder to do and more confusing. I kept putting it off. Now, services like Coinbase are making it pretty easy to buy and sell them. FWIW, I now own about 8 of them personally purchased from $65-$350 each.

I just replied to a post on Howard Lindzon’s blog with some of my thoughts RE why Bitcoin is the perfect vehicle for speculators and why good or bad the price is likely to go up. I may post more about Bitcoins here from time to time along with other investing writing.

Bitcoin is really useful is so many ways and the technology is just getting started. But the asset is just perfect for speculation. It’s designed to have 0 inflation, which means it has basically infinite deflation. It trades 24/7. And there is no real way to value a Bitcoin. So unlike cerca-2000 internet stocks, where you can say “hey this company isn’t actually making any money”, with Bitcoin there is no “main street” valuation to add any sense into the price levels.

FWIW, my favorite valuation method is to compare the total amount of transaction activity to the GDP of US states or small countries. So if people do as much commerce using Bitcoins as is done in the state of Pennsylvania in USD, that would be about $400B per year or a $400B “market cap” for Bitcoin, which is about $20,000 per coin. Of course that makes hardly any sense, especially when a lot of the Bitcoin transaction volume is investing and moving money around in accounts. But that’s kind of the point. We have no f’ing clue how to figure out what the value of a Bitcoin is.

The 1% is sitting on a lot of money and as they put some of that into Bitcoins, the price is going to go up. It has some room to run IMO. As more companies, investors, and people in general get skin in the game, there will be a limit to how far prices can crash. Lots of people have a stake in making sure Bitcoin doesn’t become “worthless”.

Of course some more experienced investors who were paying close attention to other “bubbles” in the past probably recognize this as a case where smart/wealthy speculators are taking advantage of other dumb/wealthy and not-so-wealthy speculators.

So the speculation that is a large part of the current price level is going to stick around. I find it hard to believe that with increased use and spending of Bitcoins (public ATMs, everyone with a Bitcoin debit card, Bitcoin transactions baked into internet ecommerce) that the speculation will die down.

We have a few more waves left in this IMO. That log chart is probably a good way to try to time it, but be careful.

Gold as a Commodity (via Crossing Wallstreet)

Great overview and background on Gold as a Commodity over at Crossing Wallstreet.

The summary for current investors is…

My view is that the Federal Reserve will raise interest rates earlier than expected. I don’t know exactly when that will be but it will put gold on a dangerous path. For now, my advice is to stay away from gold, either long or short.

… but you should read the whole thing for a lot of interesting tidbits on the history of gold and how to track and trade it. Here’s another quote from the article, but you should really read the whole damn thing.

Here’s a good rule of thumb. Gold goes up anytime real rates on short-term U.S. debt are below 2% (or are perceived to stay below 2%). It will fall if real rates rise above 2%. When rates are at 2%, then gold holds steady. That’s not a perfect relationship but I want to put it in an easy why for new investors to grap. This also helps explain why we’re in the odd situation today of seeing gold rise even though inflation is low. It’s not the inflation, it’s the low real rates that gold likes.

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Commodity Investing – Insurance for your Purchasing Power

I wanted to provide a counterpoint to some recent articles posted on Investorgeeks that have suggested commodities are not a good place to invest.  More specifically, that the commodities boom is a high risk area of investing and potentially a giant bubble.

I have a different opinion.  I personally feel that investing in commodities is the only way to ensure in the coming years that your portfolio is not decimated by hyper inflation.

The Present State of the US Economy

Before we discuss this further, we need to do a quick summary of the present state of the US (world) economy:

1.  Ben Bernanke is printing money as fast as he is able.  As a result, M3 money supply is expanding at close to 20% per year.  Inflation, literally an expansion in the money supply, is running at close to 14% per year, as calculated using a basket of goods with no hedonics and weighting adjustments.  Clearly, we have managed to export some inflation.  However, I believe that is rapidly coming to an end due to the loss of confidence in the US economy and the pummeling the US dollar is taking.

2.  A flight to quality is depressing bond yields, with real yields that are NEGATIVE, even according to the government’s own crooked CPI.  Bond fund managers are calling for bailouts (at the expense of the US taxpayer).  Low yields were supposedly a result of petrodollar recycling and the yen carry trade.  The strengthening yen and diversification away from the USA suggests this binge is now over.

3.  The Fed is now willing to take the rubbish paper sitting on the books of large financial institutions and give them “liquidity” in return.  In effect, the Fed is buying these bonds for their face value, even though they know many are drastically overvalued if not worthless.  The US taxpayer is again left holding the bag.

4.  If we examine the Federal Government, we see overspending that is funded by thin air money creation (the Treasury floats some bonds and the Fed buys them with freshly created money).

5.  The Fed continues to lower the cost of money, slashing rates in attempt to create a positive carry trade for the banks.  Wall Street banks, and now brokerages, can borrow as much as necessary to bail themselves out.  This insidious practice is most detrimental to Mom and Pop investors who are unable to utilize the freshly created money until well after it has passed through the hands of the financial sector.  With the money supply increasing at 20% a year, it is the rare average Joe who is experiencing an increase in salary to compensate for their decreased purchasing power.  In fact, given the weak economy and the layoffs in the real estate and financial sectors with the consumer discretionary sector to follow, it is likely that wages will stagnate until the public wakes up to hyperinflation.

All of these actions are achieving two things:

1.  the death of US dollar; and

2.  a rise in the price of everything tangible (aka commodities).

This is very bad news for the US consumer.  Gold and oil have both appreciated a huge amount when priced in US dollars.  However, to the rest of the world, the price increases are partially offset by currency appreciation and perceived wealth due to inflated housing markets.

In effect, the standard of living of the average US consumer is DECREASING relative to the rest of the world.  For the past century, US consumers have helped themselves to a supersized portion of the world’s goods and services.  This was justified as the US was an industrial powerhouse.  Today, most production has been outsourced, leaving the US to sell services.  Ask yourself this – how many people do you know who are selling services compared to making products?  How many of those making products work for the auto industry?  What value do you think someone in the European Union places on an US accountant, lawyer or real estate agent?  More than a Chinese built toaster?  Less than a South Korean built plasma tv?

The falling dollar and high rate of inflation act as a tax on the US consumer.  As we all know, a tax increase slows the economy – decreasing consumption (Keynesian economics) or savings and investment (Austrian economics), depending on your world view.  We have seen the economy falling off the rails for months now.

While commodity prices have increased, firms have attempted to slow the rise in prices to maintain consumer demand.  As their margins narrow, expect to see a decrease in corporate profits.  We have already seen this with refinery crack spreads and food prices.

As a result, the full inflationary effect of all the “liquidity” trickling down from Wall Street to Main Street has not yet been seen.  All of these factors point to a sorry state for the US economy, and the world economy by extension.  “Stagflation” is here again.

Why Commodities?

Now that we have placed things into perspective, why should you invest in commodities?

Firstly, and most importantly, you cannot create commodities out of thin air.  Unlike the money supply, commodities require an investment of physical effort to create.  Imagine the entire GDP consisted of a single apple and the money supply was $10.  It is easy to work out that the apple would sell for $10.  Now imagine the Fed takes a piece of paper, writes $100 on it and marks it as official legal tender.  An investment bank would now purchase that apple for $100 and sell you a sliver for your $10.  We are at that point right now.  You have a decision to make – which would you rather own?  The apple or the $10?

Now replace “apple” in the last statement with “ounce of silver”.  One ounce of silver last year sold for ~$12.  Today is sells for over $20.  Has the ounce of silver changed?  No.  Has the value of paper money depreciated relative to the silver ounce?  Yes.  If you can purchase 10 loaves of bread with one ounce of silver now, you can bet that in 5 years time, in 10 years time, in 100 years time you are going to be able to purchase about the same quantity for your silver ounce, regardless of its face value in terms of “paper money”.  There will be fluctuations – in good times the value of silver will be lower, in bad times higher, but the inverse is true of almost every asset class.

Secondly, in most cases, “demand” for the commodity results in its destruction.  The apple is eaten.  Copper becomes part of the toaster and plasma tv mentioned above.

Thirdly, a difficulty in stockpiling (imagine how difficult it would be to store copper worth $1M compared to an electronic bank account) hinders manipulation in the commodity itself relative to the financial markets.  Very few individuals own the necessary warehouse space to store large volumes of any commodity, with the exception of the precious metals.  Doing so has costs with no yield.   It is true that markets can be manipulated through futures, but the majority of open positions are closed prior to settlement to avoid taking physical delivery (most futures dealers will do this for you automatically and do not allow physical delivery to occur).  Futures are generally available for every month, ensuring that markets are renewed repeatedly.  Attempts to “corner” the market in assets such as silver and copper have generally been disastrous.  Recently we saw such an attempt in natural gas that resulted in a hedge fund blow up and a depreciated price wiped away relatively quickly.

In short, the increase in copper from less than $1 to greater than $3 per pound is not due to manipulation, but rather supply and demand.

Lastly, the bull market is still young.  While a growing number of people talk about the commodity bull run, many are still invested in financial assets or real estate.  Each commodity normally has only a small number of companies in production.  Physical delivery of precious metals is rare.  A 25 year bear market has taught many individuals to stay clear.

Have you ever stopped to wonder why Cortez was so entranced by Aztec gold or why pieces of eight (silver coins) were a store of wealth for hundreds of years?

What and How to Invest?

In the event you are even slightly concerned about hyperinflation and want to protect your purchasing power, you should take action to ensure that around 5% of your wealth is stored in hard currency.

In short, take physical delivery of gold, silver, platinum or palladium.  As a secondary hedge, purchase some stocks who are early to mid stage producers.  Examples include Chesapeake (natural gas), CNOOC (oil), Pan American (silver) and Yamana (gold).

As another option, you can purchase the oil, natural gas, gold or silver ETFs, or invest in a broader basket of agricultural or industrial commodities.

Futures are risky and the use of leverage can blow up in your face.  However, there is no requirement for you to use the ~10 to 1 leverage.  If you had $10,000 to invest, you could purchase a contract for 100 barrels of oil for delivery in December of 2010, rather than ten contracts for 1,000 barrels.  That way you can hold through a 10 or 20% correction without forced liquidation.  If you want to take some extra risk, wait for a pull back (to say $90 a barrel) and buy two contracts.

Conclusion: Depression?

Lastly, and on a slight tangent, history shows that approximately every 100 years the world witnesses a depression.  This is normally the result of government intervention that pushes a recession over the cliff.  The last depression occurred in the 1930s.  The majority of the people who experienced the depression were so scarred, they hoarded food for the rest of their lives.  They hated debt and purchased precious metals to prepare for the next depression that never came.  Many maintained their own garden to have some control over their food supply.  Their children, the baby boomers, were less risk adverse but still heeded the lessons of their parents.  Their grandchildren, generation X and Y, have only a mild understanding of what a depression is and how bad things could become.

The world will face many challenges over the next decade – peak oil, peak natural gas, peak coal, record low supplies of foodstocks such as wheat and corn despite record production for the last decade, the retirement of many workers with the most experience and knowledge, and a population projected to increase by 50% by the end of the century.  I think it is prudent to prepare for the Black Swan that could be around the corner.

As always, good luck.

Phil

Disclaimer:  The author owns shares in all four stocks mentioned and silver and gold bullion.

This post is for entertainment purposes only. No part of this post should be construed to constitute investment advice. The author is not an investment professional and assumes no responsibility for any investment activities you undertake. Prior to undertaking any financial decisions, you should contact an investment professional.

What is the inflation rate really?

The PPI report came out today. While we are doing better than Zimbabwe, things are still a little scary.

I was having dinner with Chris last weekend, and I expressed concern over US inflation. He asked me what the numbers were, and I didn’t have them handy. Here are the numbers from a MarketWatch article on the January 2008 PPI report.

First, the most concerning number of all:

Year over year, the PPI is up 7.4% — the fastest pace since 1981. Also on an annualized basis, the core PPI is up 2.3%.

And here are some more details found at the end of the article:

Energy prices rebounded 1.5% in January after having fallen 3% in December and having jumped 11.4% in November.

Gasoline prices rose 2.9% last month, while wholesale prices for home heating oil climbed 8.5%.

Food prices surged 1.7%, marking the fastest pace since October 2004.

January’s prices for car and light truck both rose 0.3%, with wholesale prices for drug preparations having increased 1.5%.

Book publishing costs rose 1.7% in February, which is the fastest pace since March 2002.

The inflation picture was also worrisome further back in the production pipeline.

Prices of intermediate goods destined for further processing rose 1.4%, with core intermediate goods prices moving up 1.0%. In the past year, the core intermediate PPI is up 4.1%, the fastest pace since December 2006.

Prices of crude materials rose 2.5% in January, coming on the heels of a 1.1% gain in December.

Wine Investing

Bill (CEO of WineLog) did a quick little post on Wine Investing over at the WineLog blog and introduced me to a site called WineInvestor.com.

A good site to learn about wine investing is wineinvestor.com. Wine Investor is collecting (in one place) all the types of information I would need to explore investing in wine. The guy that runs Wine Investor is from the financial services field, works with technology, and loves wine. What a killer resume.

Investing in wine could be a great way to diversify your portfolio. Especially if, like me, you already have a passion for wine. WineInvestor calls it an alternative investment, specifically a “collectible”, and suggests about 5% allocation in collectibles in this article on asset allocation and diversification. (Let’s see, that means I need to go shopping for about $1500 in wine. Nice!)

Here are some other great articles from WineInvestor. New posts are added about once a week or so.

Energy Update Nov 21

Energy prices are here, there and everywhere. Oil was trading at around 55, then went to 59, USD, March 07 futures are trading at 61 USD, and May 07 Futures are trading at 69 USD. Between now and May oil would have to increase 25%, which is a hefty premium.

A reader of my previous energy update said what I was thinking:

Doesn’t it seem strange that futures prices are higher than current prices? What products sell this way? Think about it, if you were going to buy something, like a computer or a TV, would you be willing to pay MORE for delivery in six months than to take delivery today? Of course not. You would just by the TV or computer today and be able to enjoy it today while saving money.

Doug’s thinking is interesting and worth the read. I agree with him that some big players (hedge funds, etc) are being squeezed and oil could become very volatile. Part of the reason why there is a glut of oil is because non-OPEC members are filling in the slack that OPEC is cutting.

With gasoline going up in price, and heating oil going up, from its low points refineries are making more money. This makes me think about looking at refinery stocks.

Let’s look at the price of oil. Doug is saying that oil prices are headed down. I don’t disagree and as I have been saying in the past the trading range should be 55 to 65. I did say in the past that oil would drop to 45, but stepped away from that. I would love to say, “yes oil will drop to 45”, but I don’t think it will happen.

Here are the things I am thinking about:

Using technical analysis oil is going down. Technical analysis is effective when there are no sudden events. And a sudden event, more specifically a nagging feeling about Iran bothers me. I am not demonizing Iran, what I am saying is that Iran has some serious internal issues. Add on the complication of Iran being part of the equation in Iraq, and I am getting butterflies in my stomach. If we were to put the squeeze on Iran then Iran would unite and put the squeeze on us.

Nov 6: Energy Watch

Oil closed on Nov 3 at 59.14 USD per barrel. These days there are some jittery news that could cause the price of oil to increase. Cramer in his 24-10-2006 podcast said that oil futures were driven up by the hedge funds. I agree and said so in July and Fortune said the same in May of this year. History is that, history, and the question is, where is oil headed in the future?

Let’s start with the basics and see where oil futures are trading. At the NYMEX the oil futures are trading as follows:

  • Dec 2006: 59.15
  • Jan 2007:  60.88
  • Feb 2007: 62.10
  • Mar 2007: 63.08
  • April 2007: 63.87
  • May 2007: 64.51

The various contracts are indicating a higher price as time goes. The increments are moderate, but they exist. I want to focus on the Mar 2007 contracts. Looking at the call options, combing the strike and price of the option the price of oil is hovering for the most part under 70. Looking at the put options they are hovering below 65 for the most part. The traders seem to think that oil will probably trade in the 55 to 75 USD window, with the median probably being around 65.

I think we are headed for very quick knee jerk of increasing oil prices. First it seems hedge funds are slowly moving back into energy. Second, we are headed into the winter season and typically there is more demand for oil and more volatility. Third, Iran is making subtle hints sanctions might hurt others as well. Working against increasing oil prices is the prediction of Environment Canada for a warm dry winter. If sanctions are weak, and the winter is warm it means lower oil prices.

I think there is going to be a quick oil price run-up because of a conversation I had at doggy school. My wife and I regularly attend doggy school with our two English Bulldogs. At the school Louys our male Bulldog has a friend call Xena a Doberman mixture. The owner of Xena is a farmer and we were talking about the weather. I explicitly asked her about the winter. Her reply was, “Yeah it seems like a warm winter, but oddly our horses have an extremely thick fur indicating a cold winter.” We live in Switzerland and her comment was that we would have a cold winter in Switzerland.

In the referenced Environment Canada article prediction wise they are saying warm, but the farmers alamanc is saying cold. What do you believe? I am tempted to think that the farmers might have a nugget of truth that will be exaggerated by the market due to other “factors” such as Iran, Iraq, you name it. So if you have some money to burn on a risk that could pay off, again this is REALLY risky money, buy a March call option at 64.50 for 2.75 or 65.00 for 2.55. If a knee jerk reaction happens I am tempted to believe oil will go over 70, maybe 80 for a short period of time before falling again.

For the near to medium term the trading range of oil should be 55 to 65. My earlier prediction that oil will touch 45 I am stepping back from

Energy Watch

For the past little while I have kept a closer eye on energy. So I am thinking that maybe I should create a regular blog column about energy? If you like my previous blog entry at Investor Geeks, and liked my other articles regarding energy, please tell. And if you are interested, tell me what you would like me to keep an eye on and what questions should be answered.

In a previous blog entry I talked about the price of oil. A couple of days ago I was watching Boone Pickens on CNBC. He was commenting on what direction oil will take, and in his words, “I think you’ll see $70 before you see $50.” This was the same individual that said, “80 before 60.” History has shown that oil did not reach 80, even though it was only a few dimes away from 80. I am going to cut Boone some slack in that oil did reach 80 before 60, but I will take Boone to task in that he was also saying oil would reach 100 USD.

Now Boone is saying 70 before 50 and many in the industry including myself are saying the trading range will be 55 to 60. Actually, I am on record stating that oil will drop to 45. I am a bit hesitant that oil will reach 45, but am sticking to the trading range around 55. When Boone was making his comments Samuel Bodman part of the Bush administration made a comment that the price of oil does not depend on Boone, but the traders. I completely agree with Mr Bodman, and thus let’s look at what the traders are saying (1,2).

The traders are saying for the next three or four years we are going to be in a trading band above 60, and below 75. Look closer at the puts and calls, of Jan 2007. Calculating the strike price, the cost of the options and some profit the calls are predicting a price around or over 70. Looking closer at the puts they seem to be indicating a price in the low 50’s to low 60’s. There is a discrepancy in that the calls and puts seem to be far apart from each other, and that makes me wonder. I think the traders are hedging themselves using some synthetic option magic and thus they probably don’t care one way or the other. Or somebody is going to be loosing quite a bit of money.

What’s interesting is that North Korea is threatening the world, and yet the price of oil has not flinched. This tells me that bad news has already been discounted into the price of oil. Of course if there were something catastrophic the price of oil would sky rocket. OPEC seems to be rattling their quotas saber to increase the price of oil. Though one wonders if it will have any effect.

There is an interesting piece of news that seems to have had little coverage. The news piece is interesting because it says that the oil companies expect the price of oil to be above 40 for some time in the future, and that the Shell Oil president finds the price of oil at 58 high.

UPDATE: Oil broke the 60 USD barrier and dropped back down. Cramer thought that we should be bullish regarding oil prices as Exxon is bullish. As I mentioned in my Shell Oil example big oil is investing in oil projects assuming a price above 40. I think Cramer fails to realize that if oil stays above 60, with bursts above 70 a recession will result.

I want to address a comment made in a previous oil blog entry:

Good analysis, but you forgot something important.

what happens when the dollar is devalued another 20% and oil companies demand payments in euros?

it might not affect world oil prices but it will affect US prices. I’m betting on higher oil and gas prices. i think oil will go back up to $75/bbl within next 12 months.

The USD will not in the near future devalue 20% against the Euro. If this happens then the price of oil is going to be the least of our worries. My sister lives in Quito, Ecuador and for those that do not know, Ecuador is a US Dollarized country. Such a huge drop in the dollar would not only affect American’s, but also other nations like Ecuador.

To understand the scope of the issue let me tell you how many countries depend on the USD and Euro. America has trading bi-lateral trading partnership with Canada, Mexico, Europe, and most of South America. When I say bi-lateral trading partnerships I am referring to trade moving in both directions and not just a single direction. Trade with China is in a single direction and that is from China to the US. With countries where trade moves in both directions the US is exporting a significant amount of goods.

Look at the list of “fair trade” countries and notice that countries from the America’s and Europe top the list. With “fair trade” countries have an interest in not disturbing the relationship. Since most of the countries involved have a very close relationship to the dollar or euro a significant drop by one or the other would have devastating effects. EU industry leaders have said that the ECB should not pursue a strong Euro policy since it would hurt exports. Less exports mean less work, means less imports, means a slowing consumption. Thus there is absolutely no motivation for the ECB or the Fed to commence a currency war. I sooner think that the dollar and euro will have a trading range.

Thoughts on the Price of Oil and Gas

In a previous blog entry, about a month and a half ago, I commented on how oil will not reach 100 USD per barrel. I posed the argument that to reach a doubling of the oil price would require the price to reach 160USD, which would have devasted the economies of the world. Now oil is dropping and some have commented that the price of oil will jump back up next year. I am skeptical that oil will jump up again, and I will share with you why I think oil or gas will have hard time edging back up again.

Three nights ago I was flying from Frankfurt to Zurich and while walking onto the plane I grabbed a copy of the German Financial Times. (BTW I find the Financial Times a superb newspaper). Half sleepy, I browsed through the news articles, and a small article grabbed my eye. The article was about the Shakhalin project. The article caught my eye because Russia may revoke the drilling licenses, etc based on environmental damage carried out by the oil-multis. I thought, huh, Russia pulling a license on environmental damage. I kept reading the article, and thought, what if there is something more going on?

So off I went digging on the Internet, and I found an interesting pattern. Have you noticed that recently many oil and gas governments are revoking the contracts made with the oil nationals? You only have to do a Google news search with the terms "Bolivia, Ecuador, Venezuela, or Russia oil, and contract" and you will find oodles and oodles of articles. Many of the articles have the following theme:

  • Many oil and gas countries are doing one sided contract negiotiations. For example in Bolivia instead of 18-25% of the profits, demanded is 50-82% of the profits. Do the numbers; if a country demands 51% ownership with a 50% royalty requirement the company is left with 25% of the profits. What many forget is that when a company is 51% owned by the government then automatically 51% of the profits go to the government.

The oil companies are on the short end of the stick and thus have nothing to say regarding their contracts. But I think the oil companies are fighting back in ways that are extremely sly, or at least I think are extremely sly.

To understand what I am getting at, what if the price of oil dropped? What would be the ramifications. Let’s do the numbers and you will see an interesting picture. Here are my assumptions; it takes about 15 USD to produce oil (not entirely correct because in Saudi Arabia its about a dollar and a bit, but Saudi Arabia is not in the picture), and there is a 10% decline in production (chose number arbitrarily based on comments) on some oil fields there are up 50% reductions.

Following is a table that calculates the take of the government based based on their new contracts, dropping price, and dropping oil production.

Oil Price
USD
Government Royality Government Take USD
(after production/decline)
Percentage
Difference
Percentage
Diff from 70 USD
77 25% 15.50
70 50% 24.75 160%
60 50% 20.25 130% 81%
50 50% 15.75 101% 63%
45 50% 13.50 87% 54%

The interesting part of these calculations is that while increased royalties bring in higher amounts of revenue with higher prices of oil, when the oil price drops so do the revenues. If you look at when oil is priced at 50USD the governments only get 63% of the revenues that they would have at 70USD. This is interesting because it means that if some of these leaders made big promises based on the high prices of oil or gas they will have a hard time keeping those promises.

Consider the following quote from the linked article.

High economic growth, fueled by very lax fiscal and monetary policy, has generated a surge in Venezuela’s inflation to solidly double-digit levels. Weakening oil prices threaten to upset the economic boat and deflate his political support, which has been buoyed by lavish spending. The government is set to release the 2007 budget in mid October but already most analysts predict spending for next year will likely rise or remain at current highly elevated levels.

Now you should be getting an idea of what is going on, at least what I think might be going on. The oil multi’s spent billions and billions of dollars on fields that were taken away from them. I am sure this is getting the goat of the oil companies and they are not happy.

Here is what I think the oil companies and investors are doing.

  • Playing a waiting game, where they drop the oil and gas price to levels that makes it very difficult for the governments to be fiscally responsible. Fiscal irresponsibility will result with lower prices, resulting in coup’s and losses at elections. Without being able to prove it I am guessing the oil people are waiting for the next "regime."
  • Playing the alternative fuel card. Alternative fuel will not be used to replace oil and gas, but provide a vent when things get to hot with the price of oil and gas. A sort of counter measure to keep everybody "honest" when creating or breaking contracts.

Cramer said alternate fuels were dead with the notable dead being ethanol. However, I am thinking otherwise. In the link referenced in the previously there is the following paragraph.

Tobias says $62 a barrel for crude oil is the point at which conventional diesel and biodiesel match up. When Imperium brings a new refinery on line in Grays Harbor County, the breakpoint will fall into the $50s, he says. The bigger impact of lower crude prices, he says, is likely to be on development of other, more expensive sources of crude.

It means that bio-diesel is profitable in the 50 USD dollar range, which interestingly enough is the price range that makes it difficult for many of the socialist leaders to keep their promises.

So here is my theory:

  • Oil is going to stay in a trading range of the 50’s with a low of 45, and high of 65.
  • If the oil or gas price gets too hot the alternative fuels are going to force the price down.
  • Alternative fuels will slowly creep into the mainstream

How would I invest based on this theory?
I would follow the alternative fuel makers and everything associated with alternative fuel. For example, earlier privately I mentioned to an investor friend the company Sued-Zucker and how they will become a player in the alternative fuel industry. The reason has to do with the falling of sugar subsidies in Europe. The dropped subsidies will result in an overflow of sugar beets. The sugar beets can be made into ethanol, and because Sued-Zucker has the infrastructure and capital ethanol is a no-brainer.

The pattern I would follow is one where you find a company that has a stock in the doldrums. This company should be fairly large and want to expand, and very importantly be able to put the alternative fuel card into their business model. New companies while interesting do not have the infrastructure to support producing, managing, carrying anything related to alternative fuels.