Is the so-called speculative bubble in crude oil prices about to burst?
After flirting with $50/bbl, New York crude futures have plunged nearly $7/bbl as of this writing.
Analysts cite a number of factors in assessing the pullback from the dreaded $50/bbl psychological watershed. The No. 1 factor is the easing of concern over a major oil supply disruption. Venezuela's Aug. 15 recall referendum election, resulting in the political survival of its divisive president, Hugo Chàvez, proved a nonevent as a supply disruption threat. The violent cat-and-mouse game being waged by militant Shiites against Iraqi security forces and US troops in Iraq's holy city of Najaf apparently has ended, easing fears of a widespread Shiite rebellion in that already war-torn country. The Kremlin's continuing campaign against Russian producing giant OAO Yukos is leavened with assurances that the government has no intention of disrupting supplies. Concerns over supply disruptions in these three key countries have not evaporated, and yet oil prices have plunged by nearly 14%. While this shows the extent of the speculative bubble, the fact that New York crude futures remain well above $40/bbl points to the persistently tight underlying supply-demand balance. And that means that resurgent concerns over supply outages, coupled with the usual seasonal uptick in demand in the fourth quarter, could result in oil prices trekking back up to the $50/bbl milestone again.
Market fundamentals
Cambridge Energy Research Associates contends that there remains a strong possibility that oil prices could surpass $50/bbl this year.
A supply disruption of 500,000-750,000 b/d for several weeks could keep West Texas Intermediate crude prices above $50/bbl in September, after which WTI would fall to the mid-$40s/bbl, says CERA. If instead supply fears dissipate in Iraq and Russia, then WTI could fall to $40/bbl. That hardly constitutes an oil price collapse and again points to the tight market balance.
"The forward curve on both the [New York Mercantile Exchange] and the International Petroleum Exchange has inverted further, with the premium for NYMEX crude delivery in December 2004 over December 2005 now trading around $5 compared with $3.80 a month ago," CERA said in an Aug. 19 report. "This rally over the past month indicates that the 'fear' premium may not dissipate anytime soon because the market is starting to worry about meeting supply late this year."
'Old-fashioned tight market'
London's Centre for Global Energy Studies dismisses talk of "irrational exuberance" and a "speculative bubble" and contends that the market is, in fact, extremely tight. "Crude oil supplies have been rising, but refinery runs have been rising too, allowing no leeway for inventory cover to return to the comfort zone before [second quarter 2005]," CGES said in its Aug. 23 monthly oil report. "In the circumstances, it is hardly surprising that the industry is scrambling around for any spare barrels ahead of what could be a difficult winter."
Apart from supply threats, oil demand continues to surge. Merrill Lynch's Michael Rothman points to the huge year-to-year jump in global oil demand—more than 4.5 million b/d—in the second quarter of this year.
"We have contended that some portion of this disappearance likely reflects precautionary inventory accumulation (sometimes called hoarding) in areas that we simply have no steady stream of available data for," Rothman said in an Aug. 24 report. He pointed to unusually large recent purchases of crude by India and China that suggest such precautionary stock accumulation.
"Such hoarding is not expected to persist ad infinitum and, frankly, we have to wonder if we are finally approaching available storage limits," he added.
That said, it must be remembered that the world's available spare productive capacity—currently 1.5 million b/d, most of which is heavy oil in terrorism-threatened Saudi Arabia—represents a mere sliver of a cushion. And while the Organization of Petroleum Exporting Countries is producing all out and pledging to boost capacity, there is little on the immediate horizon to suggest much relief. CGES suggests a cold winter and a 500,000 b/d outage could propel Brent crude to an average $48/bbl in the fourth quarter and over $50/bbl in first quarter 2005: "OPEC cannot help in such a world, where we are obliged to swallow the bitter medicine of high oil prices and lower economic growth so that oil demand and supply can be equal." Even if no outage occurs, that still will prove an expensive equation.
(Online Aug. 30, 2004; author's e-mail: [email protected])
