SUPPLY FEARS SHOOT OIL PRICES TO 8 YEAR HIGH

Sept. 24, 1990
Oil prices have shot to their highest levels since the early 1980s as tensions mount in the Persian Gulf. Propelled by fears of near term oil supply shortfalls, traders pushed European crude forward prices to the highest levels in 8 years and U.S. futures prices to record levels. Product prices continued to show strength in Europe last week but remained soft in the U.S. on the heels of a big gasoline stockbuild.

Oil prices have shot to their highest levels since the early 1980s as tensions mount in the Persian Gulf.

Propelled by fears of near term oil supply shortfalls, traders pushed European crude forward prices to the highest levels in 8 years and U.S. futures prices to record levels.

Product prices continued to show strength in Europe last week but remained soft in the U.S. on the heels of a big gasoline stockbuild.

Although last week's oil price rises were prompted by fears of unexpected shortfalls of oil supplies outside the Persian Gulf, the underlying bullishness in oil prices still stems from the crisis.

CRISIS STATUS

With the U.S. further cementing its insistence that Iraq pull out of Kuwait, and Iraqi President Saddam Hussein hardening his position on staying by beefing up Iraqi forces in Kuwait, analysts say the chance of war grows and with it the prospect of severe oil supply shortfalls next quarter.

Whatever prospects Iraq had for piercing the international trade embargo on it and Kuwait have dimmed. Even an offer of free oil to Third World countries fell by the wayside, and Iraqi actions against western embassies in Kuwait have only served to strengthen international resolve on tightening the economic vise.

President Bush further fueled market jitters by continuing to refuse a drawdown of the U.S. Strategic Petroleum Reserve, downplaying concerns about possible oil supply shortfalls and pointing instead to U.S. options for increasing oil production and cutting demand (see story, p. 52).

Meantime, developing nations continue to scramble to line up supplies lost with the cutoff of 4.3 million b/d of oil exports from Iraq and Kuwait. In addition, there are moves afoot in several nations to implement product price measures to deflect some of the effects of an oil price shock.

Elsewhere, European industry officials estimate the capacity equivalent of twenty-three 250,000 dwt tankers could be surplus as a result of changing global oil trading patterns stemming from the embargo on oil supplies from Iraq and Kuwait.

RECORD PRICES

Brent blend on Sept. 18 jumped to $35.70/bbl for 15 day delivery and $32.70/bbl for November delivery. Earlier in the month, Brent for October delivery mostly had hovered at $30-31/bbl.

Brent dropped by about $1/bbl the next day. London traders say the trend is toward higher prices because of the disappearing stock overhang and the first real effects of the loss of Iraqi and Kuwaiti exports starting to be felt.

European product prices also jumped in reaction to crude market activity last week. On closing Sept. 18, premium gasoline prices in Rotterdam increased to $422/metric ton from $415 the week before, and gas oil prices jumped to $286/metric ton from $260 the previous week.

The continuing strength of the Rotterdam gasoline price triggered more pump price increases in Europe. Shell U.K. Ltd. raised its premium unleaded price by 3.2 pence/gal to 2.34 ($3.67)/gal.

In the U.S., crude futures prices last week hit a record high in the 7 year history of the New York Mercantile Exchange (Nymex).

Nymex light sweet crude for October delivery hit $33.63/bbl at closing Sept. 17, up $2.33/bbl on the week and more than double the year's lowest closing of $15.30/bbl June 21. Nymex crude futures slipped 12 the next day.

Nymex unleaded gasoline for October delivery fell about 2/gal on the week to 91.6/gal at midweek last week.

U.S. gasoline futures at that point were off about 5/gal since the first trading day of the month.

That was reflected in a slide in retail gasoline prices, with the average U.S. pump price of self-serve unleaded regular down 0.2 on the week at $1.29/gal, the American Automobile Association reported.

Expected to contribute further softness in gasoline futures late last week was American Petroleum Institute's report of a 5.86 million bbl buildup in U.S. gasoline stocks.

That probably reflects the expected seasonal falloff in demand in tandem with the recent slowdown in panic buying at retail and jobber levels.

However, early signs last week of U.S. winter product supply concerns were weekly increases of 3.4 to 86.4/gal for heating oil futures and 4.5 to 44.3/gal for spot propane.

SUPPLY CONCERNS

Last week's crude oil price surge was started by market rumors of a major crude oil pipeline rupture in the U.S.S.R. that would slash Soviet export capacity. The rumor was quashed, but uncertainty about supplies kept prices high.

Market sources say price hikes after Iraq's invasion and takeover of Kuwait were based on political fears of war in the Middle East, but the latest rises reflect unease about short term supplies.

The scheduled shutdown of the Brent pipeline system in the fourth quarter also is starting to affect market thinking. The system, expected to handle about 348,000 b/d in October, will be out of action for 4-6 weeks while operators of fields connected to the pipeline install emergency shutdown valves.

BP Exploration has been forced to delay tie-in of its new Forties field pipeline until December, which also will depress production levels.

County Natwest Woodmac, Edinburgh, estimated U.K. production in December at an average 1.5 million b/d. At this level, the U.K. could become a net importer of crude, figuring December 1989 consumption of 1.8 million b/d.

Meantime, potential crude customers and traders are looking at first indicators of fourth quarter production levels in Saudi Arabia. Saudi production now is more than 7.5 million b/d. By the end of September, Saudi flow is expected to climb to more than 7.7 million b/d. Industry sources estimate Saudi Aramco could briefly push production to 8-8.5 million b/d to handle fourth quarter demand.

Saudi refiner/marketer Samarec also has clarified charter of two very large crude carriers, originally thought to be storage for hard to sell heavy crudes. The tankers will store any surplus heavy fuel oil from the increased Saudi refinery runs stemming from increased demand for military fuel and the loss of Kuwaiti refining capacity.

Venezuela has ramped up oil production to 2.2 million en route to a targeted 2.5 million b/d by yearend. That's up from about 2 million b/d in July-August and compares with 1.747 million b/d of crude plus 160,000 b/d of condensate and 108,000 b/d of natural gas liquids in 1989,

Meantime, industry sources say oil company crude stocks in Organization for Economic Cooperation and Development countries grew only slightly in the third quarter as opposed to the normal OECD pattern of a sizable inventory build at this time of year.

The past 10 years, the OECD stockbuild has averaged about 800,000 b/d in the third quarter. That stockbuild was estimated at 600,000 b/d, reflecting the unusually high level of stocks in the industrialized countries before the crisis.

PRICING POLICIES

In Japan, domestic marketing companies have toned down planned product price increases under pressure from the Ministry of International Trade and Industry.

Companies had wanted to raise prices by 37.85 yen (28)/gal to 499 yen ($3.67)/gal but instead boosted prices by only 30.28 yen (22)/gal.

In France, the government lifted margin controls on motor fuel prices established at the beginning of August. In exchange, oil companies have promised, when passing on price rises, not to exceed margins of the first 7 months of the year.

The amounts lost by companies during the price control period vary greatly. Shell France said it lost little, but Exxon Corp.'s French affiliate said it lost 30 million francs ($5.7 million) as a result of the price controls.

In the U.S., the board of the California Independent Oil Marketers Association (Cioma) called for a temporary standby federal petroleum products price and allocation program.

"Though temporary, a return of price and supply equity would alleviate what wholesale marketers consider a huge disparity that exists in the wholesale and retail petroleum markets," Cioma said.

Cioma's board plans to submit a resolution to that effect to the board of the Petroleum Marketers Association of America at PMAA's annual meeting in Nashville Oct. 6. Another resolution before PMAA calls for pursuing federal retail divorcement legislation aimed at major refiner/marketers.

IRAQ OFFER SPURNED

Iraq's offer of free crude to Third World countries failed to produce any takers.

Romania, previously involved in barter deals with Iraq, denied it was still buying oil in contravention of a United Nations embargo on trade with Iraq and Kuwait. Romania's Foreign Ministry wrote to the U.N. denying a U.S. State Department report that it was still buying Iraqi crude. The State Department report also identified Cuba as continuing purchases of Iraqi crude.

Industry sources say Jordan still is importing crude from Iraq. The government in Amman said these purchases will continue until alternative supplies are acquired at similar prices.

Last month, Jordan said it reached agreement with Saudi Arabia to provide 33,000 b/d in September, half the country's requirements. Delays in concluding the agreement have prevented start of deliveries.

Elsewhere, India lined up another 10,000 b/d of crude supplies from the United Arab Emirates through October. India also signed up for 3,000 b/d of kerosine from Bahrain and is negotiating imports of additional products from Bahrain and U.A.E.

BUSH'S STANCE

In Washington, Bush last week defended his administration's decision not to draw down the SPR.

He said, "I think when you have a real shortage of a product, or you see an external event that is going to guarantee that there be a shortage, then would be the time when you most certainly should use the SPR. It is my judgment that there isn't such a shortage at this time.

"There is some feeling that a demonstrative-albeit not large-drawdown would calm a fluctuating market. We'd say, 'Now, wait a minute, you speculators that are speculating on the price of oil out into October sometime, do so at your own risk.'

"You could make a case and I'm listening to those in the administration and on the Hill that make the case-that such a drawdown of a small amount, perhaps at the beginning might argue against or guarantee against speculation in the futures market. That's an intellectual and economic argument that has some appeal."

But, Bush said, there simply is no shortage today.

"You're seeing fluctuation driven not by market forces, not by supply and demand, but by speculation about what it might be in the future, and I just don't think that that would be entirely offset by an SPR drawdown."

Bush said the crisis won't prompt him to reconsider his ban of drilling off several states for a decade.

"I don't believe the supply situation is such that I have to revisit the decisions I made that affect Florida and certain areas in California.

However, Bush added, "I don't think these regions can have it (both ways). Some never want a refinery. Some never want a drilling rig anywhere near their place. And yet they see clearly the adverse economic effect on their citizens that comes from an oil disruption of this nature.

"The bottom line is that it's going to have to be alternative sources (of energy), it's going to have to be more hydrocarbon drilling. I think we can accomplish those objectives through incentives and through sounder practices and through new technology ... without having to damage the highly sensitive environmental areas."

Bush said he plans to press Congress for incentives for U.S. drilling.

"I think there are things we can do in R&D in terms of tertiary production that would be of benefit. But the major incentive would be to give a tax incentive to domestic drillers for future drilling. It won't detract from current income-current revenues-in the tax situation. I think that is the place where we'd push hard."

Meantime, the U.S. Department of Energy suspended oil purchases for the SPR, removing about 40,00050,000 b/d from world oil demand, said John Easton, DOE assistant secretary for international affairs.

DOE still is considering if and when it might partially draw down the SPR, Easton told a House of Representatives hearing last week.

In addition, Transportation Sec. Sam Skinner, citing sealift problems in the Persian Gulf military buildup, is considering asking for renewed subsidies for the maritime industry. Such subsidies totaled $212 million last year.

Skinner said the deployment has shown the need to maintain a U.S. flag fleet "of some size," with ships that make sense not only for commercial purposes but also for defense purposes.

TANKER BUSINESS HURT

A study for Lloyds List, London, concluded worldwide tanker employment will fall to 209.6 million metric tons while the embargo persists from 215.6 million metric tons before the crisis.

Hurt most in the decline will be operators of vessels exceeding 150,000 dwt, where utilization is expected to fall to 126.6 million metric tons from 132.3 million tons. Smaller declines will occur among 80,000-150,000 dwt vessels.

The only beneficiaries of the embargo will be owners of 40,000-80,000 dwt vessels, which will see an increase in demand of more than 2% stemming from increased trade in the Caribbean Sea and West Africa.

Loss of Iraqi and Kuwaiti business will cut tanker trade in the Persian Gulf area to 11 million b/d from 11.4 million b/d and in the Red Sea to 1.56 million b/d from 1.7 million b/d, according to the study.

Biggest losses will occur in the eastern Mediterranean, where closure of Iraq's pipeline through Turkey to the Ceyhan terminal has stopped all Iraqi exports from that area. Tanker trade in the region will fall to 1.26 million b/d from 2.86 million b/d, the study estimated.

The tanker industry is pinning its hopes for a reduction in the number of idle tankers anchored outside the Strait of Hormuz on the decision by most members of the Organization of Petroleum Exporting Countries to boost oil production.

Industry sources said there are at least 70 crude and products tankers waiting for business there. London shipbroker John 1. Jacobs identified 20 large tankers in the area.

Exact numbers are uncertain because owners, for commercial reasons, are unwilling to disclose location of their vessels.

Copyright 1990 Oil & Gas Journal. All Rights Reserved.