The world is currently facing a "50/50 oil market" in that there exists a 50% chance that the price of oil will reach $50/bbl within the next 50 days, according to Daniel Yergin, chairman of Cambridge, Mass.-based Cambridge Energy Research Associates (CERA).
"A price spike to $50[/bbl] would be likely to occur if one or more supply disruptions removes 500,000-750,000 b/d from the market for several weeks," Yergin contends. This is possible because "the world has one of the smallest cushions ever for absorbing a loss of supply, while demand growth is the strongest in a generation. These conditions mean the world oil market is even tighter now than it was during the 1973 oil crisis," he said.
Yergin noted that while spare capacity, now at about 1.5 million b/d, is at about the same level today as it was during the 1973 crisis, the oil market is actually tighter now (on a percentage basis) than it was then. "Currently, because of the great growth in output since then, 1.5 million b/d is equivalent to less than 2% of world production, whereas in 1973, it equaled 3% of production," Yergin explained.
Oil demand growth in 2004, observed James Burkhard, CERA's director for world oil analysis, is more than double the average of the preceding 6 years. Total world oil demand currently is at about 81 million b/d. "Spare capacity—the shock absorber for the world economy—is running very thin," Burkhard said. "Concerns about the possible disruption of production of the Russian oil company [OAO] Yukos are reflected in the price because the current level of spare capacity is less than the output of Yukos alone," he said.
Outlook factors
CERA's outlook considers the following factors:
- Potential disruptions, which could be caused by political unrest and violence in Iraq, Nigeria, or Venezuela. "Meanwhile, fears of terrorism also hang over the market."
- Demand growth. CERA noted that the last time oil prices were $35-40/ bbl was during the Iran-Iraq war in 1980, when demand fell by 2.6 million b/d. So far this year, however, CERA forecast that "demand is on track for the largest annual gain in a generation, at least 2.2 million b/d to an annual average of 81.3 million b/d." Nevertheless, Yergin said that the recent disappointing US gross domestic product and employment numbers are a "clear reminder of the direct and indirect effects on the economy and consumers when prices spike. If oil hits $50/bbl, it would stifle growth in world oil demand."
- Speculation. The large net long crude oil futures position on the New York Mercantile Exchange held by speculators has fallen since the start of June. "However, should they decide to reestablish a large net long position, prices could quickly rise to new highs; conversely, should product margins slip and fundamentals weaken, speculators could quickly move into a large net short position, weakening prices," CERA contends.
- Strategic reserves. "In all but the most dire supply disruptions, a large release of government-controlled strategic reserves in the industrial world could prevent oil prices from exceeding the $50–60[/bbl] range," CERA said.
"A mix of three factors would be required to bring prices down," Burkhard commented. "These include a slowing of the currently stellar world economy, a relaxation of political tensions, and the build-up of additional supplies.
"New supply will be coming to the market later this year and significantly building up over the next 2-3 years, but that will have little immediate effect," he concluded.
