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The C.I.A., Threat Assessment and Oil: The Wisdom of Crowds?   (September 1, 2005)


An article in the August 19, 2005 edition of the Wall Street Journal--well before Hurricane Katrina devastated Gulf Coast oil facilities--was titled Bets Emerge on $100-a-Barrel Oil: Open Call Options Reflect A Drastic Shift in Views On Outlook for Crude Prices.

For those not familiar with options trading, "call options" are bets made that a commodity or stock will rise by some future date of your choice--it could be days, weeks, months or even years out. Alternatively, "put options" are bets that a commodity or stock will decline by a future date.

What makes this article interesting is that it suggests some amoung the great unwashed masses of options traders-- typically a more savvy crowd than average stock market players--seem to sense that oil will continue rising:
'Investors are plunking down serious money on bets that oil prices will top $70 and $80 before the year is out. Those bets could point to higher prices. Adam Seiminski, an analyst at Deutsche Bank in New York, said the options market sees a one-in-three chance of oil prices moving above $75 before December, compared with a one-in-20 chance for the same scenario at the start of the year. "With the likelihood of a strong pickup in demand during the fourth quarter and geopolitical risks and weather events lingering, the chances of a move above $75 continue to be upgraded,' he wrote in a recent note."

This is eerily reminiscent of the C.I.A.'s much-ridiculed "threat-matrix assessment" stock market program, Policy Analysis Market, which was cancelled in 2003 after much media ballyhoo. Here is a succinct description from nationmaster.com:
"The Policy Analysis Market (PAM) was a proposed futures exchange developed by the United States' Defense Advanced Research Projects Agency and based on an idea first proposed by Net Exchange, a San Diego research firm specializing in the development of online markets.

PAM was to be a "a market in the future of the Middle East", and would have allowed trading of futures contracts based on possible political developments in several Middle Eastern countries. The theory behind such a market is that the monetary value of a futures contract on an event reflects the probability that that event will actually occur, since a market's actors rationally bid a contract either up or down based on reliable information. One of the models for PAM was a political futures market run by the University of Iowa, which has allegedly proven more accurate in predicting the outcomes of U.S. elections than either opinion polls or political pundits. PAM was also inspired by the work of George Mason University economist Robin Hanson."
The ability of transparent, open markets or independent, decentralized groups of people to accurately assess threats, shortages and prices has been widely documented, most recently in the book The Wisdom of Crowds

The sharp increase in oil futures call options suggests that $70 per barrel of crude oil is not the top price we will see this year.


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copyright © 2005 Charles Hugh Smith. All rights reserved in all media.

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