Where equity markets are like a frisky puppy out for a walk on a leash, prancing around from extreme left to extreme right (volatility in market parlance), currency and bond markets hum quietly within a narrow range of 4 decimal points. Naturally, the skill sets required to navigate these markets cannot be a one-size-fits-all template.
There are set parameters to analyse these asset classes. You can analyse balance sheets, profit and loss accounts of companies and even nations to judge where the asset prices or currency pegs are headed. This rule-based organised approach means trading these markets is a scientific exercise. Of course, human sentiment is also involved, so prices tend to be irrationally volatile at times, but they revert to the mean.
The commodity markets are a different ball game altogether. Can you study the balance sheet of lead or zinc? Then there are the elements. What if a hurricane floods a copper mine? How high can prices go? The primary difference between equities and commodities is the demand-supply equation. In equities, supply (paid up capital of a company) is static whereas demand is elastic. Commodities are a natural resource. If the demand spikes, miners dig deeper into the earth and extract more oil, gas and metals.
Equity trading is like playing football. The goalpost is static. On the other hand, since both demand and supply are elastic, trading commodities is like a sniper firing at a moving target. Any shooter will readily admit that it is infinitely more difficult to gun down a moving target.
Of all the asset classes that you will ever trade, crude oil (and natural gas) will tax you the most. These markets require skills that are not taught in textbooks. You might learn them after losing millions of rupees in thousands of trades, travelling extensively, and networking with senior fellow-traders, hoping to learn a trick or two from them.
Trading equities, forex and bonds requires skills in open source intelligence (OS-Int)—analysing data that is available in the open or public domain. Securities laws in almost all countries require listed companies to reveal financial data to the public on their own websites.
Trading oil demands more attention from participants. In addition to OS-Int, a trader, analyst or journalist must possess the skills to collect, analyse and assess the impact of human intelligence (Hum-Int). It is something I call “boots on the ground and eyes in the skies” approach.
An infantryman firing a rocket launcher at a building from a shoulder-mounted weapon has a different view of the target than a pilot bombing the target from the air. The boots on the ground and eyes in the sky approach offers the best of both the worlds.
Why this approach?
The nature of markets is determined by the collective actions of its participants. Oil traders are secretive, profit-oriented and trust no one. Perhaps the business itself demands don’t-trust-anybody approach since everybody resorts to it as the standard operating procedure. That is what makes OS-Int analysis so inaccurate and inadequate.
Almost half (officially at least) of the global supply of oil is met by the Organisation of Petroleum Exporting Countries. As an oil cartel, OPEC tries to maintain order by imposing export quotas on member-nations. That is a sore point for many members. Almost all OPEC nations are Arabic and therefore experience the Shia/Sunni divide. Members invariably accuse the OPEC head (Saudi Arabia) of dominating the landscape.
The second reason OPEC fails to curtail excessive exports is the method of calculating quotas. Quotas are dynamic and undergo frequent revisions, based on claimed oil discoveries and/or reserves. There is a big difference between claimed and proven reserves. OPEC nations invariably disallow seismic energy audits by western inspectors. They choose to release oil reserves data based on their own findings. The credibility of this data is always suspect.
This means the quota allocation systems is farcical, at best. OPEC members claim to have discovered far more oil than they actually do to get higher quotas. The governing council knows members exaggerate their figures and waters down the quotas. Which means no one trusts anyone at face value. Yet, there is very little disgruntlement at these meetings. If that comes as a surprise to you, wait, there is more. And this is the sinister, slippery, secretive yet critical part of the international oil trade.
Enter ghost markets
What do rebellious children do…
Read More: The ghost that haunts the global oil markets