Daniel Lacalle

Given all that has happened… Oil prices have not gone up a lot

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(This article was published in Spanish in Cotizalia on April 5th 2011)

The most interesting debate in the energy sector in recent weeks does not focus on how much the barrel has appreciated, but the opposite: How little it has risen in such a geopolitical storm.

A good friend, with over thirty years experience in oil, from National Oilwell Patterson and working for the DOE (Department of Energy, USA) told me recently that “the positive surprise is that oil is not trading at prices close to $200 per barrel”.

The main reason behind this is that the market is well balanced and the risk of shortages is very low. Crude inventories at Cushing (Oklahoma) are at record highs. In China, we have seen demand growth slowdown for two months, something very similar to what happens in Europe.

European and American refineries are operating at frankly poor capacity levels, close to 82%, and inventories of refined products remain at levels above the average of the last five years.

With everything that has happened in the oil market, it is curious that the price is only at $122/bbl (Brent), $ 108/bbl WTI at the close of this article. Also, we should not forget the collapse of the dollar as and additional mitigating factor. My friend alerts that “raw materials rise due to the emphasis on printing money and stimulus plans, which destroy the value of currencies.”

Let us review what has happened, with disparate effects. Let’s start with the supply side:

. The war in Libya has cut nearly 1.3 million barrels a day. And while the market welcomed the “news” that the rebels are going to sell 100 thousand barrels a day, it is hard to see a recovery of the Libyan barrels for several months. For my readers who still think it is a humanitarian action in Lybia, I recommend reading, “Resource Wars and the Shape of Global Conflict” by Michael Klare .

. Iraq, which has launched nineteen major oil projects to restore production to pre-war levels from 2.1 million barrels per day to 3.5 million, is still struggling, and will probably end the year about 300,000 barrels per day below objectives, according to friends at ExxonMobil and BP. In March, exports fell 2%. Part of the problem is that oil companies are taking up more time to get the country rid of land mines (and have funded the removal of 5%) than getting rigs installed. According to the minister of environment in Iraq, Hussein Kamal Latif, without the help of the sector Iraq would take 100 years to clear the mines scattered by the army of Saddam Hussein throughout the country. On the positive side, Kurdistan now exports about 80,000 barrels a day … hoping to exceed 200,000 in December.

. Nigeria. Yemen and Syria are all over the news. But with Nigeria, which is 2.1 million barrels a day to the market, nobody seems to want to talk. And in Nigeria the conflict is relevant, with the elections delayed several days due to fights between supporters of Prime Minister Goodluck Jonathan and the opposition. The parliamentary elections have had to be delayed, and presidential elections to April 16. Moreover, Nigeria is the largest oil producer in Africa and its political stability is crucial to the balance of supply and demand. Do not forget that in 2010 Nigeria accounted for almost 60% of the increase in OPEC production, and is the second largest oil exporter to the U.S. and Europe. Around 70% of Nigerian crude is exported to Europe and the U.S.. Therefore, Nigeria is much more important for oil market stability than many countries in the Middle East.

. Russia maintains its output at 10.2 million barrels a day, although still below the peak of 1987 (11.5mbpd).

. What role is left for Saudi Arabia? The kingdom continues to be the “World Bank” of oil, and just announced a 30% increase in investments in exploration. But from Riyadh they will not decide to increase production “just because the West wants it” after enduring years of anti-Saudi rhetoric from western governments.

These effects have made ​​the spare capacity of OPEC as perceived by the market drop to less than 5 million barrels/day. But OPEC has cut its crude exports by 363,000 barrels per day in March . That’s not because they are evil, but because demand is well covered.

On the demand side:

. Although demand will rise 1.2 million barrels per day in 2011, an increase of $10/bbl has an estimated negative effect on global GDP of slightly less than 0.3%.

. U.S. demand has stagnated since January, increasing marginally compared with 2010.

. China has reduced its imports to 19.95 million tonnes, 9% below the January figure.

. The effect of demand destruction, as always, happens with a delay of about six months. And then, as JP Morgan said in an analysis released Tuesday, the price of oil can go from having an “Arab spring to a Western winter”. Same as in 2008.

A reader of mine was surprised to read here that since 1974 U.S. oil demand has only increased by 14%.

The real peak oil is in demand, which stalled in the OECD in 2007 and still has not recovered as much as the IEA says it will, and they have always been wrong. And China imports huge quantities until the Chinese government says “stop.”

Oil is trading with no discernible geopolitical risk premium and may not reflect it unless things get much worse. So what’s really interesting is that in this environment it is “only” 20% below the peak price of 2008, when then there was no reduction in spare capacity as we see today, or widespread conflict in the Middle East.

However, if geopolitical conflicts continue to soar and we continue printing money-debt with interest rates kept artificially low, where the OECD is totally to blame, be prepared to pay another 20% more to fill the tank of your car.

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