Crude Oil …on the move

After nose-diving from a peak of $147 to $ 33 per barrel, global crude oil prices have crossed the psychological level of $65 a barrel, a level not reached so far in 2009. So, what is the cause of this spurt in oil prices? 

The very first reason is the OPEC’s success in taking a fair amount of oil off the market to balance the supply-demand picture. Since September 2008, OPEC has reduced production by around 4.2 million barrels a day to support the prices.

Second reason can be the speculation in the market, because normally, oil and gas prices reach to their highest level in April or May, as speculators in the energy markets bid up prices, in anticipation of higher oil demand because of the peak driving season during the summer, which increase the crude oil significantly.

Another possible reason can be the first signs of a turnaround in the world’s two biggest economies i.e. the US and China. In China, which is the world’s second-largest oil consumer, market sentiment has improved considerably after the encouraging data from China, which showed that the economy is on a revival path. The CLSA China purchasing managers’ index rose to a seasonally adjusted 50.1 in April 2009 from 44.8 in March for the second straight month. A reading above 50 indicates an expansion and it’s a positive sign for China that the gloomy surroundings have started to disappear. The rate of decline, in China’s oil product consumption is also slowing. In January, China’s oil product demand growth declined by 16.5%, in February it came down by 8.1% and in March by just 2.7%.

Same in case of the world’s biggest oil consumer US. A bunch of good numbers is fuelling positive sentiment. The latest labor department data showed that jobless claim applicants unexpectedly fell by 34,000 last week, while retailers posted better-than-expected sales numbers for the second straight month.

So, these are the possible reason why crude has reached at the level of $65.

One point I would like to mention here is that, OPEC has played a wonderful role in increasing the prices by cutting the supply, but actually there is no shortage of oil inventory above ground, much of it floating at sea. Yes! OPEC has stored the crude oil in the rented ship tankers. Currently, around 100 million barrels of crude oil and 25 million barrels of oil products are estimated to be floating at sea on giant tankers and OPEC is waiting for that day to come when the oil prices will reach far above their breakeven and then, they will clean up their inventory at higher prices. But, this can also lead to an increased supply, which can again throw the oil prices below $50. So, OPEC will have to play very carefully in releasing the supply.

Moreover, as we all know that the US crude inventories are at 18 year highs, which indicates that US is in position to control oil prices if they surge further because of the production cut from OPEC. But one thing is to be noted here that the US crude inventory is kind of “Strategic reserve” for US for meeting future demand. It will not affect the current demand supply in the market.

So, we saw in the past months that the crude oil prices have increased by more than 80% since hitting lows of $33 because of the one or another reason. Now, I present some “Green Shoots” of “Real oil shortage” in the world.

In Iraq, U.S. is handling over the security operations of the oil-exporting infrastructure to Iraq, putting them at increased risk. Moreover, terrorism is increasing on the ground as the Shiite government is abandoning the Sunni support. More recently the Kurds announced that they are planning to start exporting oil without the permission of Federal, which will not be accepted peacefully.

In Nigeria, there are new protests against the government for manipulating the last election and for widespread corruption.

In Venezuela, it is clear that the time has come when its already declining oil production of 8% on Y-o-Y basis is likely to decline much more rapidly. President Chavez is seizing hundreds of millions of dollars of foreign oil production equipment, belonging to contractors who have not been paid and who, therefore are withdrawing from their assignments in Venezuela.

So, Iraq, Nigeria, and Venezuela are three vital oil-exporting nations and nobody knows when oil exports from these countries will begin declining, due to these political disturbances. This decline can be a fundamental cause of decline in OPEC output, well beyond what is planned by OPEC. If so, the day of a fundamental reason for higher oil prices will come more quickly than it is otherwise expected.
 
Till now, crude oil prices are rising because of the scarcity of supply. The day is near when the global economic recovery will start and crude oil prices will rise because of the huge demand. So, in any case, outlook for crude oil is bright.

Where does all this leave India? If prices continue to move northward, an upward revision in retail prices would be the right thing to do to save oil companies. Crude oil in international markets is $60+ a barrel, the price from where oil-marketing companies start thinking about losses. The UPA will have to deregulate the administered price mechanism for all oil and gas products, if oil prices increases. Otherwise, we will return in the fiscal deficit, by once again subsidising the oil-marketing companies for their losses.