Oil Speculators May Get Burned; ECONOMICS

Article excerpt

Investors who rushed into oil through commodity indexes this year - chasing big returns as other asset classes tanked - could face steep losses if prices fall from record highs.

An avalanche of cash has rolled into commodities through simple long-only indexes this year, feeding the recordsetting oil rally some experts say could be a bubble that is becoming more vulnerable to shifts in supply and demand fundamentals.

A sell-off in oil could spell big losses for the pension funds, municipal funds, college funds, unions and other groups that jumped out of equities-market plays and into the indexes, but have little experience or flexibility to deal with fundamental changes in commodities.

"Alot of the accounts that havemoved into commodities over the last eight to 12 months clearly don't belong in this forum." said Peter Beutel, president of Cameron Hanover.

"It means that when this market turns, these people are going to get hurt, and they are going to get hurt badly, and there will be tons of lawsuits because they have no understanding how quickly commodities markets can turn and leave them in the dust." While many in the energy sector, such as US Energy Secretary Sam Bodman, argue that fundamentals are driving oil's rally, others say investment in commodity indexes has pushed prices beyond what supply and demand may justify, contributing to the 30 per cent price rise over EUR130 per barrel this year.

"We are seeing the classic ingredients of an asset class bubble," said Edward Morse, chief energy economist for Lehman Brothers.

"Financial investors tend to 'herd' and chase past performance, comforted by the growing analytical conclusion that markets are tightening, and new flows, in turn, drive prices higher." Indexes such as the giant S&P GSCI and DJ-AIG offer investors a passive way to own a basket of commodities futures including oil, gasoline, metals and grains.

They sell front-month futures and buy second-month contracts, allowing them to make money when oil prices rise across the curve. …