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Gas Is a Bloated Commodity


Seasonal factors should curtail price.

Following today's inventory data -- as unleaded gasoline prices are off some 5% to $1.95 but remain near 52-week highs -- it's apparent that this market could be due for a big pullback as the seasonal supply/demand cycle takes hold.

This year, the usually reliable pattern of gasoline demand -- price spiking during the summer driving season and declining heading into autumn -- hasn't played out as the price of unleaded gas (RBOB) climbed some 20% from late September to its peak near $2.05 in late October.

Usually the drop in demand during autumn can often cause a price slide in the wholesale gasoline market. At the same time, refineries begin switching over to heating oil production in late summer to have enough inventory on hand to meet winter needs. Therefore, gasoline production takes a back seat and wholesalers allow inventories to be sold off.

This year, even though inventories remain near historically high levels -- inventories are up more than 5% above seasonal norms and 7% higher than 2008 levels -- there's been the usual accompanying decline in price.

Price Still Propped Up

Some of this price action could be explained by the impact of all the stimulus, liquidity, and a weaker dollar, which have been propping energy and many other commodity prices. Also, some broad macro-economic trends, such as general global economic recovery, have spurred bullish speculation.

It would appear momentum and fund managers are driving prices despite weak fundamental underpinnings. While we know that liquidity and momentum can cause prices to become dislocated for extended periods, it seems the speculation is becoming excessive.

The latest Commitment of Traders report with options showed spec and fund net long positions hit an all-time record high of 181,672 contracts at the end of October. Unleaded (RBOB) gasoline longs are within 5% of the all-time highs attained in May of 2008. Another sign of the heightened price expectations is that the NYMEX is currently listing calls on unleaded gas with strike prices up to $5, or more than double the current price.

Taking a Stand

While it's dangerous to stand in front of a strongly trending market, the seasonal headwinds and underlying fundamentals should prevent prices from moving much higher, let alone doubling over the next few months.

Selling out-of-the-money calls seems like a tempting prospect as money could be made even if a correction doesn't come. One just needs to be worried about that momentum, which can lead to an explosion in price. A more prudent approach to playing a pullback might be to use a spread or turn to buying put options.

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