In Praise of Oil Speculation

BusinessWeek Economics Editor Peter Coy responds to columnist Ed Wallace and his attack on oil traders

The energy options pit on the floor of the New York Mercantile Exchange in New York City. Spencer Platt/Getty Images

by Peter Coy

Dear Ed,

You've written some great columns for BusinessWeek.com about oil prices and speculation (BusinessWeek.com, 6/27/08), and you've gotten barrels of positive reaction from readers—one recent example: "Ed Wallace is my hero." I buy gasoline, too, so I sympathize with your impulse to get to the bottom of why we're suddenly paying over $4 a gallon. I even agree with you that speculation is probably playing a role in driving up prices, and we need smart regulation of the energy markets.

But I can't work up much passion for blaming speculators and manipulators for the predicament we're in. My faith in human nature, especially when it comes to energy traders, is shallow. However, my faith in the power of financial gravity is bottomless. If speculators and manipulators have somehow managed to get prices too high, then those prices will come back to earth as surely as apples fall from trees and meteors land in Arizona. The price decline will inflict billions of dollars of losses on those speculators and manipulators—just deserts.
On the other hand, if by some chance the speculators and manipulators are correct—that oil prices could go even higher, based on supply and demand—then they will have done all of us a favor by ringing the alarm bell. High prices today are inciting suppliers to produce more oil and consumers to use less, which will ease the transition to a future of costly energy.

On July 1, the International Energy Agency in Paris predicted that by 2015, the developing countries will equal the mature economies in their oil consumption. Nobuo Tanaka, the IEA's executive director, dismissed speculation talk as a distraction: "OPEC production is at record highs, and non-OPEC producers are working at full throttle, but stocks show no unusual build," he said, according to a press release. "These factors demonstrate that it is mainly fundamentals pushing up the price."

Either way, then, it's hard to see what the big problem is. Either the traders are wrong and they are setting themselves up to lose a lot of money, or they're right, they'll make money, and they're sending the proper market signals to the economy.

Financial Gravity and Smart Regulation

Here's why I believe in financial gravity: If the price is too high, you might not know it right away because supply and demand don't react quickly in the short run. But they surely do react in the long run. Oil fields that were once too costly to explore suddenly become economical. Drivers switch from Tahoes to Civics. The natural supply of oil starts to exceed the demand. At that point, the only way to keep the price from falling is to buy oil on the open market and put it in storage. But that gets expensive, and there are only so many places you can store oil. After you've filled up every last tanker, teacup, and cowboy boot, the price must fall. Absolutely must.

Granted, the cleverest speculators and manipulators just might manage to sell before the crash and get away with a fortune, inflicting the loss on others who are just as greedy but not as bright. There's also a risk that a big, underregulated trader could go bust on bad bets and cause collateral damage, as the hedge fund Amaranth Advisors did when it blew up in 2006.

That's why I agree with you that we need smart regulation of energy markets. But unlike you, I'm optimistic about the changes in the works. You've been highly critical of Atlanta's IntercontinentalExchange (ICE), whose London unit trades an oil futures contract that's linked to the settlement price of the West Texas Intermediate contract of the New York Mercantile Exchange. You've quoted congressmen who described ICE as "dark" and "unregulated."

First, I don't rely on members of Congress to tell me who's underregulated. Second, U.S. regulators have (belatedly) put some heat on ICE. On June 17, ICE announced it would comply with Commodity Futures Trading Commission rules for reporting on large traders and capping the size of trades. I spoke with ICE's biggest competitor, Nymex (NMX), about this on July 2. Tom LaSala, Nymex's chief regulatory officer, said he was satisfied with what ICE agreed to.

The Diesel Factor and Murky Oil Data

Here's my nominee for least-appreciated factor in the runup in oil prices: diesel. You've also noticed in your columns that diesel prices have risen even more than gasoline prices. I draw a different conclusion from that. I take it as strong evidence that diesel is pulling the entire market upward. I even wrote an article (BusinessWeek.com, 5/29/08) about it. The idea in a nutshell is that diesel is scarce because of tighter sulfur standards, strong demand from China, and a steady move to diesel vehicles in Europe. Refineries can make so much money on diesel at these prices that they're competing for oil to refine into it, driving up the crude. The gasoline they get from the crude is just incidental. (By the way, that also explains why there's plenty of gasoline around.)

Now, unlike some doctrinaire believers in market efficiency, I'm perfectly happy to stipulate that speculation is responsible for big day-to-day movements in oil and gasoline prices. But who cares? That's how markets work. People bet whether oil prices should be higher or lower based on their best assessment of all the latest data, which is almost always incomplete and contradictory. (Here's a story I wrote about the murkiness of oil data (BusinessWeek.com, 5/13/08). For every piece of data you produce showing that supply seems to be exceeding demand, I could come up with a matching one for why people worry that demand will exceed supply. (I get scared just thinking about millions of Chinese and Indians buying econo-cars like the Chery QQ or Tata Nano for a few thousand bucks.)

Probably the only way to eliminate speculation from the oil market entirely would be to have the White House dictate prices. That didn't work well at all when Richard Nixon tried it.

Ed, over to you.

Coy is BusinessWeek's Economics editor.

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Points that stand out in this argument:


 - ....my faith in the power of financial gravity is bottomless. If speculators and manipulators have somehow managed to get prices too high, then those prices will come back to earth as surely as apples fall from trees....
 - Either the traders are wrong and they are setting themselves up to lose a lot of money, or they're right, they'll make money, and they're sending the proper market signals to the economy.
 - Granted, the cleverest speculators and manipulators just might manage to sell before the crash and get away with a fortune, inflicting the loss on others who are just as greedy but not as bright.

Touch Computing Hits Its Stride

Microsoft's Surface and other touch-sensitive products can simplify complicated interactions, but are software makers and consumers game?

by Aaron Ricadela


It's the computer that almost wasn't. Microsoft's Surface—a touch-sensitive table that could redefine the way people interact with machines—got its start in company research labs five years ago, though backers considered putting the project on ice several times.

Engineers wanted to build technology that would let users tell a computer what to do by moving everyday objects, such as a digital camera or a game piece, around the screen's surface. Yet some managers viewed the system as an unmanufacturable toy. "Probably every year I thought about killing it," said Robbie Bach, president of Microsoft's entertainment and devices group, picking over dinner at a San Francisco restaurant recently as he recalled budget meetings. "We struggled with the business model."


View Slide Show

Microsoft (MSFT) has overcome many of those initial challenges. And the company intends to bring Surface, initially intended for niche markets including stores, casinos, and hotels, to consumers. Research into tactile, or tangible, computing is one of the most fertile areas of electronic-product design. The systems incorporate familiar objects such as toys, game tokens, cell phones, or wine glasses—and even substances like sand and clay—into the computing experience. By taking advantage of people's natural sense of touch and spatial orientation, the systems can offer more precise control over what's happening on the screen than pointing and clicking with a mouse.

Done right, tactile computing could help users design products, play games, and complete business tasks. Microsoft is working on a giant, 6-ft. by 4-ft. version of Surface that lets groups of four or six people gather around it to collaborate. Hiroshi Ishii, a professor at the Massachusetts Institute of Technology's Media Lab, has designed systems that let architects shape landscapes and buildings using sand and clay, then see the results of their models on a computer screen. His Tangible Bits group has also devised a system that lets users move magnetic pucks to design cell-phone networks, and computerized animals that remember and replay the shapes they're twisted into. "Tangible Bits is an attempt to defy the gravity of the pixels," Ishii says.
Touch Pioneers

Apple (AAPL) has brought "multitouch" technology from its music-playing iPhone into its ultra-slim MacBook Air, and could in the future adapt it to specialized desktop computers. Hewlett-Packard (HPQ), Mitsubishi Electric, and IBM (IBM) have also done work in the field of tangible user interfaces. Anchors on CNN (TWX) manipulate maps, charts, and photos with their hands on the network's computerized "Magic Wall." And touchscreen technology for PCs is already showing up in products including Hewlett-Packard's TouchSmart PC (BusinessWeek, 6/25/08), which can recognize gestures like the flick of a finger for choosing albums to play or selecting photos to view.

A confluence of greater processing power, the spread of supersized displays, and the success of the iPhone at raising users' awareness of the power of touch computing has sparked interest in the field. Microsoft's Surface efforts survived in no small part because of advocacy from Chairman Bill Gates, long a champion of "natural" methods of interacting with a computer, including touch and speech. In fact, tactile computing is one of just a handful of areas (BusinessWeek, 6/26/08) that Gates will continue to help navigate after his retirement from full-time work at the company. "Bill's a half-step ahead of us, and two steps ahead of the market in his thinking," Bach said.
Industry Implications

As forward-thinking as they may be, Gates and other surface-computing proponents need to ensure the technology doesn't leave the rest of the industry behind. The systems are expensive, the vast majority of software doesn't work this way, and there's little agreement over the best way for users to interact with tactile computers.

There's also a nagging question over how useful surface computing can be in a work setting, since applications remain somewhat limited. Today, the systems handle such tasks as helping salespeople explain the features of cell phones in AT&T Wireless (T) stores; assisting patrons at a Harrah's Entertainment casino in ordering drinks; or letting users download photos from a wireless-equipped digital camera placed on top of Surface.

Bruce Tognazzini, a principal at usability consultant Nielsen Norman Group, who's also worked at Apple and Sun Microsystems (JAVA), says the technology has big implications for the design industry, for starters. Tognazzini, who worked for Apple from 1978 to 1992, says it's "very realistic" for Apple to design a multitouch Mac for graphics designers with a horizontal screen. "The payoff is going to be high enough that people are going to go for it," he says. Apple spokesman Steve Dowling declined to comment on what he called speculation about future products. Yet Apple is already broadening its use of touch computing. In addition to the iPhone and iPod Touch, Apple's MacBook Air laptop features a large track pad that lets users make pinching, swiping, or rotating gestures on it to manipulate text or images.
Will Consumers at Large Adapt?

Microsoft is looking into business uses of Surface, such as manipulating photos for a magazine layout, or letting two people compose a PowerPoint slide show together, says August de los Reyes, a user experience architect at the company. Gates showed a group of CEOs in Redmond (Wash.) a prototype system called TouchWall that lets users stand in front of a giant vertical screen and use finger flicks to flip through document pages or slide decks. And Microsoft recently demonstrated Windows 7, due in 2010 or so, running on a touchscreen laptop and responding to gesture commands.

Andy Wilson, the researcher at Microsoft whose work led to Surface, says Windows 7 could simplify what today are complicated interactions, like the multistep process of clicking, grabbing, and rotating an object in a drawing program by using a mouse. "If you're going to have these kinds of complicated conventions, sometimes it might be easier to put your hand on the thing and do what you want," he says.

As with every new technology though, the success of tactile computing may depend in large part on users' willingness to adapt. "People still have a resistance to changing their work style," says MIT professor Ishii. In design shops and other creative milieus, people draw on whiteboards, talk about ideas, and point to things—interactions that tactile systems can mirror. "That's an exception," he adds. "Most meetings are one guy talking, and many people listening."

See BusinessWeek.com's slide show for more on surface computing.

Ricadela is a writer for BusinessWeek.com in Silicon Valley.

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The reason I put this article up here is to highlight my belief that touch computing is the next big thing in personal computing. I remember how enamoured we were with the touch computing kind of technology in Iron Man.

--vj

Will Yahoo! Feel the Love?

Steve Ballmer's $45 billion marriage proposal is fraught with risk. But Microsoft can't let Google go on unchecked

by Jay Greene

Steve Brodner

With the hefty premium included in its $44.6 billion bid for Yahoo! (YHOO), Microsoft (MSFT) looks well on its way to persuading shareholders in the Internet company to support its unsolicited offer. Yahoo employees, however, will be another matter. Not only has Microsoft been a frequent rival, but many Yahoo staffers view it as a lumbering giant that doesn't understand the Internet. "I see culture clash," says Norm Fjeldheim, chief information officer at wireless chipmaker Qualcomm (QCOM). "If I was Google, I'd be thrilled. I can steal a lot of the top talent out of Yahoo."

Microsoft CEO Steven Ballmer has an astonishingly difficult task in front of him. To make his historic bid for Yahoo pay off, Ballmer will have to overcome a series of high hurdles, from winning the approval of regulators, who have warred with Microsoft in the past, to retaining key talent in the wake of an unwelcome takeover. He'll need to sort through scads of overlapping businesses, shutting down some units and laying off staff. All the while, he and other top executives will have to make sure that the nitty-gritty of making the merger work doesn't distract them from keeping Microsoft's other businesses on track and watching out for the Next Big Thing. "It's a mess," says analyst Charlene Li of the market research firm Forrester Research (FORR).

The challenge is made all the more difficult because Microsoft and Yahoo would merge as two struggling rivals, trying to catch up in the online advertising business to an increasingly powerful Google (GOOG). That, some experts say, could be an indication of troubles ahead. "Virtually all the deals from Hell are done by companies that are collapsing into each other's arms like a defeated prizefighter," says Robert F. Bruner, dean of the Darden Graduate School of Business Administration at the University of Virginia and author of Deals from Hell, a book that examines failed mergers.

"The Single Biggest Threat"

The history of tech megadeals is littered with unfulfilled promise. AOL's $164 billion acquisition of Time Warner (TWX) is only the most notorious. There's also Lucent-Alcatel, Sprint-Nextel, Excite-@Home, and many more. Tech deals are particularly prone to failure because change comes so fast in the sector. Any distraction from a problematic deal, and you're left in the dust.

Of course, Ballmer knows the history and the challenges ahead. But Microsoft has few alternatives. Google is racing ahead in online advertising, and the surging ad business threatens the very foundation of Microsoft's empire. Computing is increasingly moving to the Web, challenging the relevance of Microsoft's core products, the Windows operating system and Office productivity software. "Google is the single biggest threat Microsoft has ever had," says David B. Yoffie, a Harvard Business School professor.

Ballmer argues that Microsoft, with Yahoo, can get the sort of scale in Web surfers and online advertisers it needs to compete with Google. The same goes for capital spending. Microsoft could boost the returns on the money it invests in computer server farms, for example, if its online audience more than doubles. "The ability to do more, that's fantastic," Ballmer said in an interview with BusinessWeek.

What's more, the company is hoping to bring together Yahoo's research and development staff, who've done innovative work in online advertising auction theory and data-mining, with its own online lab. Microsoft expects to reap $1 billion in operating efficiencies by combining the 14,000-person Yahoo with the 80,000-employee Microsoft.

Dilemmas, Dilemmas

Looks great on paper. The reality, though, may be something else entirely. Start with efforts to meld or eliminate overlapping businesses. There are dozens of them, everything from news Web sites and Net portals to e-mail, instant messaging services, and online advertising technology. To achieve the projected cost savings, Microsoft will have to choose which businesses survive and which ones don't.

Ballmer says: "Yahoo, the brand, will live." But eventually he'll have to decide between Yahoo Mail and Microsoft's Hotmail, Yahoo Finance and MSN's finance site, and others. Inevitably, products will be jettisoned, managers will lose clout, and people will lose jobs. "They've really bitten off quite a bit," says Kevin Lee, executive chairman of Didit, a search marketing company that helps companies place ads on Google, Yahoo, and Microsoft Web sites.

One thorny call will concern Microsoft's adCenter and Yahoo's Project Panama, both technologies designed to help advertisers finely target online marketing. In a combined company, there's no reason for both to survive. And if you ask Tarek Najm, a distinguished engineer at Microsoft and adCenter's general manager, what Panama technology he'd like in his product, he's blunt. There isn't any. "We're the leaders in technology," Najm says. "Ours is better."

Layoffs Are Inevitable

Of course, getting to that $1 billion figure means cutting bodies, lots of them. "The cost structure of these companies is predominantly people," says Charles Di Bona, an analyst with Sanford C. Bernstein & Co. Who goes? It's impossible to know. But it won't just be lower-level staff. There's no reason to have two bosses for e-mail, instant messaging, and Web portals. Ballmer may have to chose between respected managers such as Brad Garlinghouse, the senior vice-president who runs those businesses at Yahoo, and Steve Berkowitz, the Microsoft senior vice-president with similar duties.

That sort of uncertainty can crush morale, something Yahoo has already been struggling with as its business has floundered. Some key employees have left in the past year, including sales boss Wenda Harris Millard, marketing chief Cammie Dunaway, and Yahoo Entertainment leader Vince Broady. Such defections are likely to mount if Microsoft takes over, even among the Yahoo engineers Microsoft badly needs to keep in order to compete with Google. "I just can't imagine most Yahoo employees wanting to stay on," says one former executive who left last year.

Much of Yahoo's appeal to employees has been its place in the Valley firmament as a Net icon. Being absorbed into Microsoft strips that away. "People at Yahoo have a little bit of that natural Silicon Valley hatred of Microsoft," says a former Yahoo vice-president who left last year. "Yahoo has always considered itself a bit of an upstart."

Microsoft may have little choice in bidding for Yahoo. If it wins, it'll have little room for error.

With Catherine Holahan, Robert D. Hof, and Steve Hamm