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Gas Price Prop Betting

One of the reasons that I love handicapping and betting non-sport proposition bets is that you can frequently find amazing value.  Such was the case with Pinnacle's well publicized proposition bets on the price of gas.  They've got two bets posted--a "yes or no" prop on the average price of gas reaching $2.50 a gallon nationally by 1/1/06, and a similar prop on the average price in New York or Los Angeles reaching $3.00.  Earlier today I instructed my clients to bet the "YES" on both propositions--at the time of release the "national" gas prop was +145 YES and the NY/LA prop was +364 YES.  

The “yes” position on both props has been bet down substantially.  The LA/New York gas price prop is down to +222 and the national average prop is down to +105.  I won’t take all of the credit for this, since Pinnacle has received a ton of mainstream press for their gas price prop bets.  In other words, even if they have to pay out on every bet they’ve received they’ll more than get their money’s worth out of the prop.  

High gas prices are obviously no secret to any motorist, but how high will gas prices climb?  In April, the EPA projected a summer high national average of $2.30 a gallon, which was the second upward revision they’d made.  If anything, the EPA projection is inherently going to be on the low side—as a government agency they’ve got political motivations to err on the side of caution in their estimates.  Furthermore, at the time they projected the $2.30 national average it was based on the spot market for oil reaching a high of $57.00 a barrel.  With oil closing today near $64 a barrel and analyst predictions that it could go higher a new estimate would already be closing in on the $2.50 per gallon mark.  

The current national average is $2.33 a gallon, and the Los Angeles average is $2.61 a gallon.  New York is also $2.61 a gallon, though typically the prices on the west coast will be higher.   

The per barrel price for oil is at record highs, and while there may be a slight downturn in the prices I don’t see anything that could cause a substantial drop.  The oil markets have been hypersensitive to world events this summer—the London terror attacks caused a strong upward move, and today’s surge was attributed to threats of terrorism in Saudi Arabia and Iran’s strong resolve about their desires to obtain nuclear weaponry.   

Another important component in the gas price equation is the cost of refining the oil.  US refineries have been running at 96% of capacity over the past month, and fires in the past week have taken four facilities off line.  As part of the oil market “hypersensitivity” to external events, seemingly minor events like these have resulted in upward price spikes.  More importantly for the price of gas going forward, we’ve got the two primary components in the pricing equation trending upward.  Even assuming that the 4 fire damaged facilities get back on line soon, the only thing that will alleviate the production capacity problems is a drop in demand (more about that in a moment) or the building of new facilities which obviously can’t be done overnight.  

The cost of exploring and drilling for new sources of oil is also passed along to consumers, and with prices at record highs the oil companies have a strong financial incentive to aggressively spend money to bring more product to market.  Again, another component of the pricing formula with an upward trend.  

Most importantly, perhaps, is that the consumer demand for gas has not only remained strong but has increased significantly despite the spike in prices.  That could be a function of the overall strength of the economy, but nevertheless there have been no signs of weakening demand whatsoever.  Simple economic theory dictates that at some point prices will get high enough to lessen demand, but from the looks of it this won’t happen anytime soon.  

While the cost of gas has never hit $3.00 a gallon in the US, there is some historical precedent for this lofty plateau.  Adjusted for inflation, gas reached a high of $3.11 a gallon in 1981.  

Listening to CNBC and Bloomberg today, where the $64 a barrel oil prices were the top story, most petroleum industry analysts predicted “at the pump” price increases of .15 to .20 a gallon nationally, with “substantially higher” price jumps on the west coast.  Those projections would put gas prices right in the “target area” for cashing the bet.  

Historically, demand for gas is greatest during the summer but temporary price increases of .10 or more per gallon frequently occur around holidays with high travel volume.  With three of those still to come before the end of the year (Labor Day, Thanksgiving and Christmas) this could result in even higher gas prices.  

As I see it, for gas prices to not hit $2.50 a gallon nationally and $3.00 a gallon on the west coast several things would have to happen. First, there would have to be some very good news out of the Middle East to indicate the region is becoming less volatile.  Second, there would have to be a strong decrease in consumer demand for gas and, finally, production demands at the refineries would have to ease.  Unless such a perfect confluence of events occurs—and these trends are strong enough to be reflected in the oil markets—it looks like the pricing trend, as well as the individual components therein, is decidedly upward.  

That’s what made the YES position on this bet so appealing—we’re getting underdog money in a situation where it appears that the stars have to align in just the right way for gas prices to fall short of these plateaus.  That’s called “finding value”, and that’s the name of the game in sports betting.

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