Why Gas Prices are Heading Higher

With "Big Ben" testifying over the next two days on Capitol Hill, the indices will be bouncing around.

I always find it curious that the same Street urchins who criticize government for interfering in the "free market" are nonetheless the same ones pouting in the corner when the Fed doesn't propose a new bailout to improve their portfolio values.

When my children would pull a stunt like that, they would be sent to bed early... not given a seven-figure salary and benefits.

In any case, that's not the only pouting going on...

A few weeks ago, pundits were claiming U.S. gas prices could be moving down to as low as $3 a gallon nationwide.

Well, these same guys have been quiet lately.

That's because the price has been moving, all right, but in the opposite direction.

The RBOB near-month futures price was up again yesterday (Monday) at market's open. This is the contract traded on the NYMEX for blended gasoline. The price has increased 5.6% in the past week and 11.6% for the month. As of Monday's open, the price had recovered 13% from the recent low, just three weeks ago.

Gasoline is now tracking ahead of the rise in crude oil futures prices.

The reasons are rather straightforward.

The Real Story Behind Gas Prices The decline in prices (slightly more than 25% between the end of March and late June) resulted from three factors:

Concerns over a recession, both because of Europe and American conditions.

Increasing inventory.

And demand projections.

From the outset, all three were overdone. Each served more the interests of short players than any actual comment on the medium-term prospects in the price itself.

We continue to witness the strangest of circular arguments. Soft economic statistics immediately prompt pundits to declare there was a reduction in demand. After all, they have to fill dead air time with something.

That manufactures a reduction in the demand scenario (we don't know there actually is one for at least a quarter or more, by the way) that justifies continuing concerns about the economy and further downward pressure on gasoline prices.

Yes, we have experienced a slowdown. And that slowdown did justify a reduction in price.

But similar to oil pricing, the actual reduction was disproportionate to the measurable causes. The bulk of this was (and is) an emotional response to headlines.

Despite the softness, there is one point I need to make very clear.

There are no figures to justify any long-term and genuine bout with the beast of double-dip inflation. On the way down, gasoline price declines were exceeding the reduction in oil prices.

Now, we have the opposite trend.

The single greatest factor in gasoline pricing remains the cost of crude oil. As both were going down, analysts would point to the rising inventories of both in the U.S. economy as a further indication of the "economic softness begets demand reduction begets economic softness" cycle.

The gasoline and oil markets have certainly been oversold and remain so to this day. That means the rebound is likely to be greater there than in the energy sector as a whole.

But there is also something very disingenuous about the demand-inventory picture. At the same time analysts were pointing to increasing stockpiles as indication of a reduction in demand, the amount of imported gasoline was dramatically increasing.

A surplus of production at refineries in Europe, already strapped by razor thin margins, has been flooding the U.S. market. Throughout the downward push in oil and gasoline prices, American refineries have been stockpiling cheap raw material and finished product volume. This was not a demand situation at all, but a view to refinery margins (and profits).

What about the domestic production inventory? Observers usually point to Cushing, OK, on that issue. Cushing remains the primary crude oil hub, a main intersection of pipeline routes. NYMEX daily prices are set there.

For some time, a production glut, resulting in the rise of inventory at Cushing, was blamed as a major factor in depressing oil prices. A pipeline was installed to reverse flow, allowing some of that volume from Cushing to move south, to Gulf-area refineries. In fact, a delay in rerouting that pipeline contributed to the downward slide in oil prices last month.

But something significant has happened in futures prices over the past 48 hours. The one-month (next out) contract prices have pulled even with the spot price at Cushing. Both are now going up in tandem.

The geopolitical factor - read EU embargo against Iran and the renewed threat on Sunday from Iranian Joint Chiefs of Staff Chair General Hassan Firouzabadi to block the Strait of Hormuz - is once again spiking Brent prices in London. That increases the spread between Brent and WTI (West Texas Intermediate) in New York, now in excess of 18% and expanding.

And that increases U.S. refinery margins and prices.

Now, there is not going to be straight line up over the remainder of the summer. But indicators are pointing to gasoline that is more expensive.

I would not be shorting gasoline or gasoline-based ETFs these days.

Related Articles and Links:

• Money Morning: Oil Prices Look For Steady Rebound

• Money Morning:
  Four Things Suppressing Crude Oil Prices Today

• Money Morning: Oil Prices and the Death of Greece