Inventory, weather influence markets

Sam Fletcher
Senior Writer

HOUSTON, Dec. 29 -- The February contract for benchmark US sweet, light crudes increased 26¢ to $63.72/bbl Dec. 20 as the US Energy Information Administration reported of a larger-than-expected 6.3 million bbl drop in commercial US crude stocks to 329.1 million bbl in the week ended Dec. 15.

Warm weather then caused the February contract to fall for four consecutive trading sessions through the Christmas holiday, closing at $60.34/bbl Dec. 27, the lowest level for a lead contract in more than a month on the New York Mercantile Exchange.

The price increased to $60.53/bbl Dec. 28 on the report of another large drop in crude stocks, down 8.1 million bbl in the week ended Dec. 22, marking larger-than-anticipated crude draws in 10 out of the last 11 reports. "Since Nov. 17, US crude supplies have declined by 20.2 million bbl, the biggest 5-week drop since the hurricane season in 2005," said analysts in Houston office of Raymond James & Associates Inc.

Weather drives markets
Nevertheless, forecasts of warm weather and fear of a slowing US economy continued to dominate the market. "This month is expected to end up being the warmest December on record while initial forecasts for January are calling for continued mild weather," said Robert S. Morris, Banc of America Securities LLC, New York. Because of a strong El Nino weather pattern, the National Oceanic & Atmospheric Administration called for higher-than-normal temperatures in most of the US for the rest of the winter.

"Market sentiment has been driven primarily by mild East Coast weather recently. However, we suggest that the impact is being overdone, given that heating oil is normally just 6% of US demand at this time of year, and last year proved to be less affected by weather than is normally assumed," said Paul Horsnell at Barclays Capital Inc., London.

"The average price of front-month [crude contract on NYMEX] in 2006 is headed for about $66.25/bbl, a 17% rise on 2005 and not much of a major deceleration from the increases of 20%, 32%, and 37% experienced in 2003, 2004, and 2005, respectively," Horsnell said. "However, oil prices are ending the year relatively weakly, with the value of the Organization of Petroleum Exporting Countries' basket currently lower in dollar terms than it was at the start of the fourth quarter. Further, in euro terms the value of the basket is currently only a little above its low for the quarter."

Geopolitical issues ignored
Traders shrugged off several geopolitical issues that could impact the market. The United Nations Security Council voted Dec. 22 to order all countries to stop supplying Iran with materials and technology that could contribute to its nuclear and missile programs. Iran remained defiant, although Iranian Oil Minister Kazem Vaziri Hamaneh said Iran's oil industry and crude exports would not be disrupted.

"This move, although expected, should be viewed as an escalation in the confrontation between the Islamic Republic and Western nations," said Raymond James analysts. The UN resolution "was watered down significantly at the behest of Russia and China; both have significant economic ties to Iran."

Raymond James said, "From an oil market perspective, this resolution does not have any direct impact on Tehran's ability to pump crude oil into the international markets; the sanctions are targeted purely at the country's ability to acquire materials necessary to develop nuclear technology.

"However, this stern decision by the international community highlights the geopolitical risks that continue to haunt the ever-tightening energy markets. Going forward, threats by Iran to pull out of the Non-Proliferation Treaty and expel UN nuclear inspectors may further aggravate the current situation and inflate the risk premium in oil prices," the analyst said.

Violence escalated in Nigeria's Niger Delta with armed attacks by militants on oil production facilities. "The largest African crude producer has lost anywhere between 200,000-600,000 b/d in hydrocarbon production in the past year," Raymond James reported. "As a precautionary measure, one oil firm has already started to evacuate dependents of foreign employees from the turbulent region. Nigeria continues to be a stark example of the very real geopolitical risk to oil supply, and one that may not be fully recognized by the commodity markets."

With the recent reelection of President Hugo Chavez, Venezuela's oil production should remain below its OPEC quota. The loss of more than 30% of Venezuela's former crude production level since 2001 "is one of the worst declines of any major oil producing country," said Raymond James analysts. "The entire political map of Latin America continues to shift towards left-wing governments with generally antitrade and anti-investment policies."

(Online Dec. 29, 2006; author's e-mail: samf@ogjonline.com)

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