Because the prices consumers pay at gasoline pumps haven't been changing rapidly, it's natural to assume that energy prices haven't been moving much on a global front either.
In fact, the sharp drop in crude-oil prices on world markets this week is a dramatic example of the gyrations in energy markets all year long.
The immediate cause of the plunge in crude-oil prices this week was the warning of a possible price war next spring that came out of last weekend's meeting of the Organization of Petroleum Exporting Countries. The OPEC oil ministers didn't threaten a price war exactly, but their communique made it clear that would be the result if OPEC and non-OPEC producers don't cooperate to stabilize prices by reducing production.
But oil prices had headed down well before the OPEC meeting in Geneva -- as early as Nov. 27, according to John Hill, vice president of Merrill Lynch Futures, because traders expected the price-war warnings.
The current fall is the latest shift in the roller-coaster pattern that oil prices have followed this year. Crude-oil prices were high in April, then sank to $26.50 a barrel in July. From there, they rocketed to above $30 a barrel. They had fallen below $25 this week, and no one knows where the bottom is.
The reason for these gyrations is a fundamental change in energy markets over the past two years that is important to oil-producing nations, energy companies and consumers.
The change is the emergence of a powerful futures market where companies, investors and speculators trade the rights to buy and sell crude oil, gasoline and heating oil for guaranteed prices at specified dates in the future.
The trading on energy futures markets is having a strong affect on cash prices for actual transactions. Critics say it has become easier to manipulate prices in both markets. If supporters of futures trading are right, however, the constant wide-open buying and selling in the futures markets also creates more realistic prices for oil. And that reduces the risk of a sudden escalation of prices like those that shocked the world's economy twice in the 1970s.
Cash prices are based on reports of actual transactions -- like the daily quotations of stock prices on stock exchanges. In a typical energy futures contract, a buyer makes a commitment to purchase 1,000 barrels of crude oil at a specific price one, two or three months in the future. On the opposite side of the transaction, there is a seller who promises to sell 1,000 barrels at a specific price in the future.
A major oil trader like Bermuda-based Trans World Oil may buy a cargo of heating oil bound from the Caribbean to Boston to protect against a steep drop in prices. While the tanker is at sea, the trader can sell a futures contract, thus acquiring a guaranteed right to sell the same amount of oil at a fixed price about the time the tanker reaches Boston. The trader's hope is to lock in a profit based on the guaranteed futures price, even if the cash price drops.
Since futures trading in oil and petroleum products began two years ago, trading has grown dramatically.
"The market has become bigger and more volatile for several reasons," said Peter C. Beutel of the Rudolf Wolff Futures Inc. trading company. "There are many more people playing and more widely divergent views of what the market is going to do." When traders sense a market is rising and flock in, they help accelerate the market's climb. The same thing happens going down, he said. "It is destabilizing in the short run but it tends to have a stabilizing effect long term," he said.
Supporters of the futures market -- and participants such as Hill -- point out that a futures market is the closest thing to a true, open market for oil where bids and offers are freely declared. Traders trying to monitor cash transactions must call around to sample prices and can't be sure of what they are being told, he said. "Every cash trader looks at the screen to see how futures prices are trading," Hill said.
This constant activity is the best insurance against a sudden massive change in prices, Beutel said. But futures trading does increase the risk of short-term price manipulation, Hill said. A large trader theoretically could try to force the futures market down by active selling and take advantage of the lower price.
But the size of the oil market is good insurance against any significant or lasting manipulation, Beutel said. "You can't do it. No one's bigger than the market," he said. "If you try to run prices too high, you can set yourself up for all kinds of losses."
"In a world with no futures trading, the potential for manipulation is quite a bit less," Hill said. But attempts to manipulate futures prices could not last long because of the size of the oil market, he added.
"The market for oil is something like $400 billion a year," he said. If a speculator tried to run oil futures prices up, and other traders sensed the speculator was too far out on a limb, the potential to take huge positions in the opposite direction would be tremendous. "The speculator would get blown away," Hill said. "I don't think anybody's got those kind of deep pockets."