I don’t put a lot of faith in macro predictions – as no one can predict the future. But you can study track records. You can look at history. History reveals some interesting clues about what the future may hold.

The quick take? It doesn’t look like the party is over just yet. But even if it is, past peaks in oil give us clues. When you dig a little deeper into those relationships, you find a great road map for making money.

If you look at the price of oil, you find something interesting. Since January 2001, you can explain the move in the price of oil largely as a function of increasing money supply. As the amount of money grows, the price of oil rises. In fact, almost 87% of the move in the price of oil can be explained by the increase in money supply, as this next chart shows:

Basically, $100 per barrel oil is what we would expect to see, given this relationship between the oil price and money supply. Given that we are still in the midst of a credit crisis of sorts, it seems unlikely the Fed will tighten money in any way at all. That leaves a clear path for the price of oil and commodities to continue to rally in nominal terms.

The other thing to remember – and people forget this by worrying excessively about a U.S. recession – is that the story of oil is no longer a U.S.-centric story. You’ve surely heard about how the rapid growth in China and other emerging markets drives oil demand. Well, it’s good to keep that in mind.

China and India are only beginning to consume oil at any meaningful level. Right now, they are consuming oil at a rate the U.S. did in the early years of the 20th century. But look, we don’t need China to start guzzling oil like we do. Even if it moves half the distance between it and Hong Kong, that’s a lot of extra demand. The way I look at it is this: What’s more likely, China stays at 1910 oil usage or moves somewhere closer to, say, 1950s U.S. oil usage? I think the latter.

Mark Mobius, in a column he wrote for the Financial Times , points out that the fundamentals in emerging markets are better than they’ve been in a long time. The future looks bright. “The Chinese and Indian consumers are the world’s new consumers and they, along with consumers in Brazil, Russia, Turkey, the United Arab Emirates, Egypt, Mexico, Poland and many other emerging markets, are becoming an important force in global markets.”

All that bodes well for oil demand. But I haven’t really gotten to the best parts yet…

Even if oil has already peaked, that doesn’t mean oil is headed back to $40 per barrel or lower. In fact, if this oil boom follows history at all, we’re looking at years of oil prices right around $100 per barrel.

It is important to realize that in no prior oil boom did the price of oil retreat rapidly toward where it was before the boom began. In each case, the price of oil stayed up for years after the peak. That ought to give you some comfort about our current situation. The price of oil should stay up here for years. If his estimate of 2013 is at all close, we’ve got plenty of time left to make a lot of money.

So where do you go to make that money?

The one obvious place people will automatically look to is to own oil and gas producers. That’s not a bad idea at all. But I’ve got another angle here. The next two charts are amazing. They show you the capital and exploration spending of both Exxon and Chevron from 1928-2007. They show spending bottoms in 1948 and 1974. After each bottom, there was a long run of spending. Spending peaked nine years after 1948. Spending peaked seven years after 1974. If 2005 proves to be the bottom on capital spending – and it seems so, since Exxon only recently announced it would increase its capital spending to $25-30 billion over the next few years, a 25% increase -we won’t see capital spending peak until 2012 at the earliest.

Now, why is this important? Think about what the oil companies spend money on. Where do they go shopping? They go shopping at the oil field services and equipment companies.

So that is where we want to be. Because even if oil has peaked, we’re still looking at years of strong spending by the oil companies. You want to have some exposure to the receiving end of all that spending. Such companies will mint cash. And they give you a little different payoff than owning a straight producer. It can sometimes be better to own the picks and shovels. You don’t actually own or produce the oil or gas, but your equipment is vital to those that do.

Newmont Mining, the big gold producer, is an example of a producer that has profoundly disappointed investors amid what may be the greatest gold bull market in history. Newmont’s costs rose so fast and so much that it never really enjoyed (at least not so far) the higher price in gold. But if you were in some mining equipment manufacturer, you got paid.

So the key takeaways here are these: The price of oil has room to run yet, in part because of the growth in money supply and in part because of pressing international demand. Secondly, even if we already saw oil peak, history says that prices won’t retreat by much over the next several years. And finally, the capital spending boom by the big oil companies is just getting started, which is great news for investors in oil field services companies.

The big idea here is well servicing…

It’s really a great and kind of sneaky way to play an undeniable trend in oil and gas: the depletion of older wells past their peak production. Well servicing helps you get a little extra out of every well. A well service rig is the workhorse that does the well servicing.

Here’s the life cycle of a typical oil well…

Every time somebody drills a well, it creates an annuity for the well service industry. That’s because the maintenance work follows the life span of a typical well. If you don’t service your well, your production rate declines much more rapidly. So if you want to stay in business, you keep servicing your existing wells. You may not drill new ones, but you keep what you have.

The second key to remember is this: The more mature the oil or gas field, the more well servicing work needed. Well servicing doesn’t typically have the same ups and downs as exploration. Well service fleets provide much more durable and predictable cash flows. I expect all that money the big majors spend on exploration will lead to a lot of new drills and a long tail of new business for well servicing companies.

Chris Mayer
for The Daily Reckoning Australia

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Source: Has Oil Hit Its Peak Price?

The high and rising price of oil is causing real pain in the heartland… and yet the view looks quite different from the Middle East.

Chakib Khelil, the Algerian oil minister and president of OPEC, has flatly stated that “there is no shortage.”

The oil minister of Qatar is even more blunt. “The market doesn’t need more oil,” he says.

Hussain al-Sharistani, the oil minister of Iraq, takes the strangeness even step further. “There is more oil in the market than consumers want,” he argues. (Which begs the question: Which consumers exactly?)

There is obviously plenty of bad news in crude oil’s meteoric rise. But the bright side is, real pain means the U.S.A. — and much of the world — is finally on the cusp of real change. That means profit opportunity on a major scale.

Nosebleed Oil Prices — Whose Fault?

A few weeks ago, OPEC members seemed to shrug their collective shoulders at the thought of $200 a barrel oil. President Khelil points out that much of the price rise is due to a weak dollar. (Every one percent decline in the dollar’s value, OPEC estimates, increases the price of crude by $4 a barrel.)

So the dollar is one major culprit. But there are many other small factors that add up.

For example, China, after suffering through its worst earthquake in decades, has had to shut down mines and wells for safety reasons. Apart from the terrible human tragedy of more than 34,000 lives lost, this can only add upward pressure to oil prices.

In South America, Venezuelan oil exports recently dropped to a five-year low, and evidence is mounting that the country has become a state sponsor of terrorism under Hugo Chavez.

In Nigeria, rebels continue to keep oil and gas production on a knife edge. In places like Russia and Mexico, oil and gas output is declining at an eye-opening rate.

The little things pile up; if it’s not one thing, it’s another. This is generally the case when supply and demand are so tightly matched there is almost no margin for error. That’s where we stand now in terms of global oil demand vs. available daily supply.

It’s not rocket science to see how all these factors add up to $127 a barrel oil. For years, naysayers have been telling us that the price of oil was about to collapse and head back to ‘cheap’ any day now.

Of course, what was cheap just kept edging higher and higher. First it was $25 a barrel. Then it was $35. Then $45, $55, $65. And now we’re at the point where $85 or $90 a barrel oil would probably seem ‘cheap’ relative to today.

Growth and More Growth

The supply side of the equation is tough and getting tougher. And when we look to emerging markets, it becomes clear that the demand train isn’t slowing down.

The U.S. consumer might be spent, but consumers in other countries are just rolling up their sleeves.

For example, Bloomberg reported last week, “China’s retail sales climbed at the fastest pace since at least 1999, signaling that domestic consumption may help to buffer the world’s fourth-biggest economy against an export slowdown.”

At the same time, Thailand reportedly booked its fastest growth in two years in the first quarter of 2008.

A key debate these past few years has been whether or not domestic demand growth would kick in strong enough, allowing export-heavy regions of the world like Asia to become captains of their own economic fate. The evidence suggests this is happening.

Then add to that mix the fact that shopping malls are spreading like wildfire in Russia, cheap cars are conquering India, Southeast Asians are doubling and tripling the amount of meat in their diets, and so on.

For much of the 20th century, the Western world threw a party that the rest of the world missed out on. Now that the West is miring itself in economic slowdown, ROW (a common Wall Street acronym for “rest of the world”) seems to be saying, “No thanks. We’re not much interested in your pity party, either… but we do intend to get our fair share of those resources you’ve been hogging.”

The Good News

Again, there is plenty of good news, too.

High oil prices may be here to stay, but the reasoning behind this phenomenon is not all bad. It’s a good thing for ROW to be coming on line… to see new wealth being created, new economic breakthroughs, new dreams of escaping poverty and hardship on a grand scale.

And here in the land of plenty (the United States), it’s good to see habits truly changing for the first time. It was a phenomenon itself these past few years how stubborn the American consumer seemed to be in the face of rising gas prices.

No matter how much pain was felt at the pump, we just kept driving. The gas-guzzler culture seemed to be bulletproof. Ford Excursions and Chevy Suburbans just kept rolling off the lots.

Last week, the price of oil hit $127 a barrel. Oil imports to the United States cost 67% more this year than last. Imports other than oil rose more than 6% – or three times the Fed’s key lending rate. Steel has shot up too – almost 50% in the last 12 months. And gold rose a full $19 on Friday…it’s practically back at $900.

Naturally, the papers are squawking about inflation today. The Financial Times worries that inflation is going to undermine pensions and retirement plans. The International Herald Tribune, meanwhile, says inflation is undermining central banks’ efforts to…well…cause inflation!

Wait – we know what you’re thinking. Something is very wrong with a world where central banks cannot cause inflation any time they want to. Next, they’ll be telling us that you can’t have a cigarette when you want one…

But the papers are full of remarkable things…so why not? Besides, there are so many petards in central banking anyway; Bernanke and company were bound to get hoisted on one of them.

A society has no more real savings (resources set aside) than it actually has. And it sets interest rates (the price of those savings) as it sets any other price – on the basis of supply and demand. When the Fed intervenes with artificially low rates, it is merely pretending that it has resources available that it does not actually have. That is the trick known popularly as “inflation,” in which the supply of purchasing power is inflated with money that doesn’t exist.

Since the beginning of the credit crisis last summer, Fed policy has been purely inflationary – intended to convince people that they had more money and credit than they thought…and that they should spend it and invest it. But that policy can’t work forever. Eventually, consumer prices rise sharply. Then, the game is over…the Fed has to “lower inflation expectations” before it can inflate again. The hocus pocus only has a positive effect, in other words, as long as people are misled…once they catch, the jig is up.

And here we beg readers’ attention of a moment of deeper thought. This classical, cynical view of inflation seemed to be wrong for so long people began to think it was wrong forever. An entire generation has grown up with 1) a dollar with no connection to gold, 2) a dollar that actually rose against gold for 20 years, 3) Wal-Mart’s Every Day Low Prices, 4) apparently inexhaustible supply of cheap labor 5) globalized markets and supply chains and 6) falling bond yields. No wonder people began to think that inflation was no problem…and never again would be. Central bankers claimed they could now control economic cycles so as to have growth without inflation…boom without bust…forever. But forever seems to have come to an end already.

“The specter of inflation has risen over financial markets…” begins the IHT story.

Central banks can only get away with making money easier to get when consumer prices are under control. When prices for gasoline, milk and margarine begin to rise, people get fussy. They want their central banks to stabilize prices. And central bankers themselves look at their lending rates and get a little embarrassed. “How come you’re lending money so cheap?” economists ask them.

The fear is that if inflation is allowed to get “out of control,” it takes harsh policies to bring it back in line. Harsh policies are what everyone wants to avoid…especially before an election.

Classical economics tells us that an asset price bubble is always followed by an asset price bust. Inflation is followed by deflation, in other words.

But in our funny, complicated world, we get both inflation and deflation at the same time. The last two big bubbles – in residential housing and the financial industry – are deflating. Prices are going down for both assets. But inflation-sensitive commodities, most notably oil and gold, have soared. And now prices seem be working their up all along the chain…from the oil wells, to the shipping containers, to the Chinese sweatshops, to the shelves of Wal-Mart. A photo in today’s paper, for example, shows a pump at a filling station in New York with diesel fuel over $5.

What this means to central bankers is that they have to watch it. They can’t cut rates so freely…not while consumer prices are rising. Instead, the pressure will be on the other side – to raise rates.

To the man on the street it means that he has to prepare to pay higher prices for everything.

And to investors? What does it mean? It means inflation will do the work the bear market hasn’t been willing to do – that it will reduce the real value of stocks and bonds, even if nominal prices remain steady. Tim Bond, of Barclay’s Capital says, “investors have to be prepared for a few very unpleasant years. Bonds of all types – aside from index-linked – have no place in portfolios at current yields. Equity exposure should be narrowed to resources, energy, industrial goods and services – and once the write offs are completed – financials.”

*** Being the world’s leading hegemon is mostly thankless. You have to maintain military garrisons all over the world and try to keep the barbarians under control – which is so expensive you are almost guaranteed to go broke. And when a competitor challenges you, you have to meet the challenge. Cartago delenda est (Carthage must be destroyed), as Cato put it.

The only benefit of empire is also a curse: you get to tell others what they should do. Thus did the U.S. president lecture the Mideast yesterday, says today’s paper. Unfortunately, your earnest attempts at world improvement are seen by others as nothing more than hollow vanity. “You want to be a winner,” you say to the wogs and wallywallies, “then be like me.”

Everyone wants a little edge…a little extra grandeur…the feeling of superiority that comes from being among the elite. (There is also the hope of catching a few crumbs as they fall from the grand table.) So, typically, subject peoples try to sidle up to imperial race…and imitate their speech, dress, and manners. During the Roman era, for example, the local people of Londinium wore togas, spoke Latin, gave their children Roman names, worshipped Roman gods and angled for jobs and gratuities from their Roman masters. Later, the British Empire brought out the same fawning sycophancies. Even though the English tried to keep their culture to themselves, it was not uncommon to see a freed slave in Jamaica or an uppity native in far Mandalay speaking English and wearing a waistcoat.

June reformulated gasoline gained a penny, to $3.13/gallon.

The Energy Information Administration released its weekly inventory report yesterday, and it showed crude supplies climbing for the third straight week, up 5.7 million barrels for the week ended May 2. The three-week build is now nearly 12 million barrels.

Gasoline supplies rose 800,000 barrels, the EIA said, while distillate stocks were down 100,000 barrels. Refinery utilization fell to 85.0% of capacity from 85.4% a week earlier.

“This report is bearish, although it remains uncertain how much [it] will influence prices given the ebullient sentiment in the oil market,” wrote Chris Lafakis, of Moody’s Economy.com.

“It will be hard for the bulls to put horns on this bearish report,” said James Williams, of WTRG Economics, and he wryly suggested that “maybe we ought to call this the Goldman effect,” referring to Goldman Sachs’ projection for a $150-200/barrel oil price in the near future.