MARKET WATCH: Energy prices drop; OPEC retains quota

Sam Fletcher
Senior Writer

HOUSTON, Sept. 10 -- Energy prices fell Sept. 9 before ministers of the Organization of Petroleum Exporting Countries meeting in Vienna agreed to "strictly comply" with their September 2007 production quota of 28.8 million b/d, which implies a de facto reduction of some 530,000 b/d of overproduction.

The decision will necessitate some adjustment of individual members' quotas to include new members Angola and Ecuador and the withdrawal of Indonesia, which joined OPEC in 1962. Iraq, of course, remains exempt from the OPEC quota as it tries to rebuild its oil industry. OPEC leaders said they remain ready to respond swiftly to any development affecting the stability of the currently over-supplied world oil market. OPEC's next ordinary meeting is scheduled in Vienna on Mar. 15, but a special meeting is slated Dec. 17 in Algeria. Representatives from non-OPEC members Egypt, Russia, and Sudan attended the latest meeting.

The exit of Indonesia and formal inclusion of Angola and Ecuador make "for a statement as clear as mud and for wide interpretations as to the desired level of OPEC production," said Olivier Jakob at Petromatrix, Zug, Switzerland. "The problem is that there are currently mainly two countries that are above quota: Iran (by 280,000 b/d) and Saudi Arabia (by 510,000 b/d) while Nigeria and Venezuela are below quota. Hence it is not only Saudi Arabia but also Iran that would need to reduce production. We will not bet one cent on Iran doing so; the most likely scenario we see is for Saudi Arabia to make a slight cut (about 300,000 b/d) and to readjust depending on the output from Nigeria."

The wording of OPEC's decision encourages the assumption that the cartel will maintain a $100/bbl floor for crude and could encourage "some short covering and additional investment to come in on the buying side near $100/bbl," Jakob said. The average price of OPEC's basket of 13 benchmark crudes fell $2.59 to $98.49/bbl Sept. 9.

Moreover, Jakob said, "Even if OPEC was to strictly adhere to the quotas decided in September 2007, it would still leave global stock builds into 2009. Hence the bears will look at the supply and demand and argue that the cut is not enough to make a structural change in the stock outlook."

A preliminary estimate by KBC Market Services, a division of KBC Process Technology Ltd. in the UK, puts the gap between OPEC's actual production in July and its official quotas near 900,000 b/d, "of which by far the largest portion (757,000 b/d) comes from Saudi Arabia." KBC analysts said, "The excess output from Saudi Arabia consists of the two production increases they announced in the middle of this year, amounting to 550,000 b/d, plus some extra production. For the other countries, the excess of production over quotas is relatively minor. In the case of Nigeria, due to the ongoing civil disturbances in the Niger Delta, production is lower than it would otherwise be. In addition, for Venezuela actual production is below quota by an estimated 80,000 b/d—not a deliberate choice but a symptom of Venezuela's production crisis." It was reported Sept. 10 that gunmen in the Niger Delta hijacked an oil industry supply vessel with five foreign workers and eight Nigerians on board.

KBC analysts said, "The fact that [OPEC] did announce an [unofficial] production cut, even as the newspapers went to press last night saying it would not, shows that the organization is very nervous." They said OPEC ministers "have been concerned that a move below $100/bbl could turn into a serious price retreat reminiscent of the 2006-07 fall in crude prices, which saw a high of $78/bbl in August 2006 slide down to $52/bbl in January 2007. OPEC's response then was 1.7 million b/d of production cuts, and prices rebounded. Today, the fragility of the global economy means that drastic production cuts are not possible without risking further demand destruction and economic pain."

In New Orleans, analysts at Pritchard Capital Partners LLC reported moderate gains in crude prices in the US and abroad in early trading Sept. 10. "The disconnect between the futures market and cash markets—particularly the Gulf Coast—remains staggering," they said. "Front-month reformulated blend stock for oxygenate blending (RBOB) is 32¢ weaker than what it was Apr. 1, while regular unleaded gasoline prices on the Gulf Coast have leapt more than 30¢ since that time. Basis levels there went out at a remarkable 53¢ over futures yesterday, making it the strongest in the nation, with 27¢ separating it from the next-strongest market. Refinery woes in the region over the past several weeks have led to a shortage of barrels, making prompt material hard to come by."

Meanwhile, the International Energy Agency in Paris lowered its global oil demand forecasts by 100,000 b/d to 86.8 million b/d for 2008 and by 140,000 b/d to 87.6 million b/d for 2009. "The data suggest that the demand impact of weaker economic conditions and high prices during the summer—when oil prices reached an all-time peak—was more marked than expected, notably in the US. Furthermore, the effects of the ongoing hurricane season on US demand are subject to considerable uncertainty," the IEA said.

Hurricane Ike
Hurricane Ike is expected to strengthen from its current Category 1 status before coming ashore Sept. 12-13 somewhere along the Texas coastline between Galveston and Corpus Christi. The storm apparently will miss most of the oil and gas operations in the central and western Gulf of Mexico, but Corpus Christi's refining center is probably at the greatest risk.

The US Minerals Management Service reported 167 of 717 platforms and 44 of the 121 mobile offshore rigs in the US sector of the Gulf of Mexico were evacuated as of midday Sept. 9. Officials said 77.5% of the oil and 64.8% of the natural gas usually produced from offshore federal leases have been shut in. That includes workers who were evacuated and production that was shut in prior to Hurricane Gustav earlier this month and not yet reactivated.

ConocoPhillips' 247,000 b/d Belle Chase, La., refinery remained shut in; the Department of Energy earlier reported 18 additional refineries with a total capacity of 4.3 million b/d were either in the process of restarting or else operating at reduced levels in the wake of Gustav. Six natural gas processing plants with a total capacity in excess of 5 bcfd remain shut down, while another 16 plants with combined capacities of 12 bcfd are restarting or operating at reduced runs. A week after Gustav made landfall in that state, 8.9% of Louisiana was still without electrical power.

US inventories
The Energy Information Administration said Sept. 10 that commercial US crude inventories fell 5.9 million bbl to 298 million bbl as Gustav disrupted operations in the week ended Sept. 5. That surpassed Wall Street analysts' expectations of a 4.2 million bbl drop. Gasoline stocks dropped 6.5 million bbl to 187.9 bbl in the same period, outstripping Wall Street's consensus of a 4.6 million bbl fall. Distillate fuel inventories decreased by 1.2 million bbl to 130.5 bbl, undershooting a call for a 2.2 million bbl decline. Propane and propylene inventories increased by 1.6 million bbl to 54.5 million bbl.

Imports of crude into the US dropped by 1.2 million b/d to 8.6 million b/d in that same week. Input of crude into the US refining system was down 1.8 million b/d to 13.5 million b/d with plants operating at only 78.3% as several Gulf Coast locations shut down ahead of the storm. Gasoline production fell to 8.4 million b/d, and distillate fuel dropped to 3.9 million b/d.

Energy prices
The October contract of benchmark US light, sweet crudes hit a 5-month low in intraday trading at $101.74/bbl Sept. 9 prior to closing at 103.26/bbl, down $3.08 for the day on the New York Mercantile Exchange. The November contract dropped $3.25 to $103.36/bbl. On the US spot market, West Texas Intermediate at Cushing, Okla., was down $3.08 to $103.26/bbl. Heating oil for October delivery lost 8.8¢ to $2.92/gal on NYMEX. The October RBOB contract fell 9.77¢ to $2.65/gal.

The October natural gas contract inched up 0.8¢ to $7.54/MMbtu on NYMEX. On the US spot market, gas at Henry Hub, La., fell 44¢ to $7.27/MMbtu.

In London, the October IPE contract for North Sea Brent bottomed out at $98.94 in intraday trade, marking the first time since Mar. 24 that front-month Brent has sold below $100/bbl. The contract closed at $100.34/bbl, down $3.10 for the day. The September contract for gas oil dropped $20.25 to $937.75/tonne.

Contact Sam Fletcher at samf@ogjonline.com.

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