5 Reasons Why Oil May Rise

There are five supply-side issues that could cause oil prices to rise over the short-term:

1. Iran: one of the biggest (and cheapest) oil producers on the planet is on the verge of revolution. This could potentially disrupt supply.
2. Venezuala: oil workers allegedly haven’t been paid and are close to a strike. Chavez indicated he wants to sell oil at $100 and wants to work with Russia to manipulate prices. Both of these issues could disrupt supply.
3. Nigeria: domestic tensions threaten to shut down its oil system.
4. North Korea: simmering tensions and escalating provocations could send the peninsula into war. This would add a risk premium to the price of oil.
5. OPEC: members (who happen to control a big portion of the world’s flow of oil) have indicated they want oil prices at $75/bbl by the end of the year. They are willing and able to manipulate supply to ensure this happens.

Will these issues outweigh demand destruction? Potentially. Obviously the impacts depend on how severe the supply-side disruptions become.

Also, could one major political blow-up remain contained? Hopefully. If more than one of the above scenarios unfolds at the same time, oil prices could skyrocket. Good if you're long oil, bad if you're long the global economy.

Comments

[Shale Gas:]

There is plenty of excess oil capacity in the world to absorb some of these supply shocks.

Jun 24 08:45 AM

[john s. gordon:]

north korea - the problem here is that the madman in charge wants to sell missiles & nuclear warheads to terrorists for cash. terrorists have lots of cash. the current batch of weapons on board ship seems to be destined for myanmar.
> jack

Jun 24 08:49 AM

[A Barrel Full:]

I agree with Shale Gas

The situation today is far different than it was 18 months ago. OPEC has reserve capacity. If S.Arabia, wants $75 oil, then given a supply shock, that is what we will get, because they will release enough oil to make that happen.

Jun 24 09:30 AM

[Ferdinand E...:]

You are right 'A Barrel Full'. As for $100/b, I wonder how Cadillac Bill and Molly Mae would greet that prospect if it came to soon, and threated to escalate. They might decide that a little rifle play in the Gulf is preferable.

Jun 24 10:01 AM

[The Greates...:]

I will file these reasons along with the reasons listed below from the summer of 08.
rebel attacks in Nigeria.
unprecedented maintenance issues at none of the refineries.
rough seas at the Mexican ports.
fog at the Houston port.
pipe line interruption’s ANYWHERE in the oil producing countries.
problems getting the right summer mix in gasoline.

And now the refineries are taking the consumer for a ride at the gas pumps.
I do not believe they have found oil in North Korea yet.

Jun 24 10:45 AM

[The Greates...:]

For some good reading on this subject check out this site.
Global Research.
www.globalresearch.ca/...

Jun 24 10:57 AM

[JeffDB:]

On Jun 24 09:30 AM A Barrel Full wrote:

> The situation today is far different than it was 18 months ago. OPEC
> has reserve capacity. If S.Arabia, wants $75 oil, then given a supply
> shock, that is what we will get, because they will release enough
> oil to make that happen.

-----

The world has excess capacity right now, but that's only because worldwide demand dropped by millions of barrels per day. In 2008 the producers and refiners were running flat out as fast as they could, though there were the inevitable disruptions here and there and still could not keep up with the ever rising worldwide demand. World leaders went with hat in hand to Saudi Arabia begging for some relief from the prices which had spiked above $140 per barrel. The Saudis promised to help, called a meeting of OPEC members to discuss the near crisis situation, but all they could offer was another 200,000 barrels per day. It had little to no effect.

Something had to give and it was the world economy.

Things may be a bit different now, than then, but not always in good ways. Demand in China is still growing. They're still building highways, roads and bridges and other infrastructure, including auto manufacturing. They have sold more cars in China this year than the U.S. has.

Meanwhile we've been consuming almost 84 million barrels per day from worldwide reserves that have been recently revised downwards. The cost of extraction and refining has also been going up. Fields of the cheap and easy to extract, high quality oil are no longer being found as was the case with the giant and super giant fields of decades ago.

One measure of that is the "Energy Returned on Energy Invested" or "EROI":

netenergy.theoildrum.c...

"Cutler Cleveland of Boston University has reported that the EROI of oil and gas extraction in the U.S. has decreased from 100:1 in the 1930’s to 30:1 in the 1970’s to roughly 11:1 as of 2000 (Figure 1). But beyond the fact that society receives currently around 11 barrels of oil for every 1 barrel that it spends getting that oil, What does this mean?

Well, first, it means that, if the trend of declining EROI continues, society will be spending an increasingly larger chunk of their remaining energy to get more energy. This cycle is positively reinforcing:

Declining EROI means that the net energy contained in each unit of energy delivered to society is decreasing over time, requiring the extraction of increasingly greater quantities just to meet societal demand →
decreases the quantity of energy remaining in the ground for future society →
makes it more difficult to find and develop the remaining bit of energy.

Jun 24 10:57 AM

[JeffDB:]

On Jun 24 10:57 AM The Greatest Rip Off of our Time wrote:

> For some good reading on this subject check out this site.
> Global Research.
> www.globalresearch.ca/...;aid=8878
--------

I'm skeptical of the conclusions of that report, namely that

"Since the advent of oil futures trading and the two major London and New York oil futures contracts, control of oil prices has left OPEC and gone to Wall Street. It is a classic case of the “tail that wags the dog.”

and

"only a handful of major oil trading banks such as Goldman Sachs or Morgan Stanley have any idea who is buying and who selling oil futures or derivative contracts that set physical oil prices in this strange new world of “paper oil."

Although futures trading can have short term effects on a market, I don't think it would be likely to have permanent or even long term ones. I know a lot of people seem to dislike the NY Times' Paul Krugman's opinions, but I think he has it right in this Op-Ed piece on May 12, 2008:

www.nytimes.com/2008/0...

"Now, speculators do sometimes push commodity prices far above the level justified by fundamentals. But when that happens, there are telltale signs that just aren’t there in today’s oil market.

Imagine what would happen if the oil market were humming along, with supply and demand balanced at a price of $25 a barrel, and a bunch of speculators came in and drove the price up to $100.

Even if this were purely a financial play on the part of the speculators, it would have major consequences in the material world. Faced with higher prices, drivers would cut back on their driving; homeowners would turn down their thermostats; owners of marginal oil wells would put them back into production.

As a result, the initial balance between supply and demand would be broken, replaced with a situation in which supply exceeded demand. This excess supply would, in turn, drive prices back down again — unless someone were willing to buy up the excess and take it off the market.

The only way speculation can have a persistent effect on oil prices, then, is if it leads to physical hoarding — an increase in private inventories of black gunk. This actually happened in the late 1970s, when the effects of disrupted Iranian supply were amplified by widespread panic stockpiling.

But it hasn’t happened this time: all through the period of the alleged bubble, inventories have remained at more or less normal levels. This tells us that the rise in oil prices isn’t the result of runaway speculation; it’s the result of fundamental factors, mainly the growing difficulty of finding oil and the rapid growth of emerging economies like China. The rise in oil prices these past few years had to happen to keep demand growth from exceeding supply growth."

I think the contango situation this year did have the effect of pulling some oil temporarily off the market, but that was for a short time period and in rather unusual circumstances: seekingalpha.com/user/...

Those circumstances did not exist in the summer of 2008 when prices were spiking, and I don't believe hoarding was the cause of that spike. If we look at the Energy Information Administration numbers for 2008 (1), in fact, we see that consumption exceeded production for the 1st half of the year, before it dropped in the second half. Consumption and production were roughly in balance for the year.
Total World Production ..................... 85.72 (1st Q) 85.70 (2nd Q) 85.43 (3rd Q) 85.10 (4th Q) = 85.49 (2008 avg.)
Total World Consumption ................. 86.52 (1st Q) 86.07 (2nd Q) 85.10 (3rd Q) 84.07 (4th Q) = 85.43 (2008 avg.)

In other words we had a worldwide stock draw from inventories of .80 million barrels per day in the 1st Q of 2008, & .36 mbd in the 2nd quarter. It wasn't until we went into a worldwide recession and demand dropped by more than 1 mbd in the 3rd quarter and almost another mbd in the 4th that we had a small surplus build.

From your link:

"In January 2006 when the CFTC allowed the ICE Futures the gaping exception, oil prices were trading in the range of $59-60 a barrel. Today some two years later we see prices tapping $120 and trend upwards. This is not an OPEC problem, it is a US Government regulatory problem of malign neglect."

I used a similar argument in an unsuccessful attempt at humor in a high school homework assignment. I noted in the paper the amazing correlation between the growth in students taking english classes in the 20th century and the number of people committed to mental institutions, concluding, of course, that english classes caused mental illness. My english teacher didn't think it was too funny and gave me a "D" for committing the "Post-hoc ergo propter hoc" logical fallacy, aka "confusing association with causation".

But the bottom line for me, once again, is that I remain unconvinced by that article that in May 2008 "Perhaps 60% of today’s oil price is pure speculation". I would be looking for evidence that the "speculators" were bidding the prices up higher than would be explainable by supply and demand, telltale signs of which would be a growing buildup in inventories as Mr. Krugman noted. But from what I can tell, that was not the case.

As it stands, I'm more inclined at the moment to believe something close to the opinion expressed in an editorial in Energy Current:

"After many years of solid growth, oil production plateaued in October 2004. Regardless of the price level, the oil supply simply stopped responding, and from then on, the world had to make do with broadly flat supplies. ... demand accommodation was required. This was achieved by secular prices rises averaging 25 percent per annum from 2003 to the end of 2007. In other words, the price of oil went up, and this constrained consumption by causing the marginal consumer to drop out of the market. ...by the second half 2007, the situation was becoming critical. Consumption was being maintained by continuing draws on inventories averaging 1.4 mbpd, and virtually every producer, with the possible exception of the Saudis, was running flat out. By early 2008, even the Saudis were throwing the kitchen sink at the market - all to no avail. On paper, it looked like a peak oil nightmare.

Of course, consumers were responding. From 2005, the EU and Japan began to shed consumption and, from late 2007, US consumption also began to decline as the US consumer sought to escape high oil prices. Notwithstanding, developed economy consumers were not abandoning the market as fast as Chinese consumers were entering it, and prices continued to rise. In early 2008, prices took off and some argue that speculation took over. Still, as inventories continued to fall until May 2008 and all the oil producers were running at full output, the case for market manipulation at that time is hard to make. Indeed, the market was in backwardation most of this time. In backwardation, futures prices are lower than spot prices, the equivalent of the market saying, "Well, prices are high now, but they'll be lower later." The market - those very speculators - believed that oil was over-priced but was continually surprised as demand kept pushing up prices." (2)


Endnotes:

1. International Crude Oil and Liquid Fuels Supply, Consumption, and Inventories (2008, 2009 & 2010 projections as of June 2009)
www.eia.doe.gov/emeu/s...

2. EDITORIAL: Peak oil, not speculation; 5/11/2009; by Steven Kopits, Managing Director, Douglas-Westwood, New York
www.energycurrent.com/...

Jun 24 01:57 PM

[TraderRob:]

No one is disputing the fact that Oil is a limited natural resource which will eventually be ousted as the primary energy source due to prices growing beyond levels economically feasible to it's conventional uses. The real question should be where is the price/barrel of Oil going right now. It's funny how the mob decides it's suddenly okay with a "long" strategy when the market is going up, but scrambles for short strategies when the market is in free fall. To all of those with a long outlook on any commodity, a history lesson in the cyclical nature of all natural resources wouldn't hurt. Oil has nowhere to go except down, especially once the Chinese stimulus has run it's course this fall and the country returns to global demand to float the top line. The consumer isn't coming back and apparently the refiners aren't upping production so the surplus inventories aren't effecting the price at the pump AT ALL. Crude will fall back to 50 once the S&P breaks 850. Don't buy the hype, do your homework and wakeup.

Jun 24 02:00 PM

[Plan B Econ...:]

Question 1: how was the consumer doing during the 1970s?

Question 2: how did stock markets perform during the 1970s?

Question 3: how did oil perform during the 1970s?

Supply is as much a factor as demand when it comes to pricing commodities.

Jun 24 03:17 PM

[The Greates...:]

JeffDB
Interesting conclusion, while if someone keeps saying the sky is falling enough times, loud enough, eventually someone will always look up. Having thirty years in the inside of the drilling for oil and gas in Texas, I can say that there are PLENTY of capped wells on land and off shore that have not even been used other then for testing purposes. Some well platforms have up to 14-28 drilled wells in one platform alone.
Do not underestimate the power of propaganda, until the black energy trading area of commodities has a real watch dog on duty, there will always be lots of people running the end around game for profit.
Further, the $25 to $100 scenario situation is a world event that actually happened in 08, truckers parked their rigs, food has gone up 30% at the store, the balance that you speak of has been breached, 10,000,000 Americans have lost their job in the last year and we are still loosing more jobs at a 450,000 a month rate even as we speak. But there is light at the end of the tunnel, Americans are driving far less then the oil companies thought they would this year, that resulted in a 1.3 million barrel increase in the barrels of gas on hand. There is a 20 year surplus of crude oil to the extent that the oil industry has been paying tankers to hold oil in storage at a cost of $75,000 a day fee. The world oil surplus has been on the rise over the last 6 years. It is not about supply and demand anymore, it is about control of the market that supplies the product.

Jun 24 03:29 PM

[TinyTim:]

Mad-
Interesting comments from Rubins book.
High oil prices will certainly impact globalization. Unfortunately, not the call centers in India. But it should bring some jobs back.

"Even if we replace them with electric cars, we don’t have the power grid to juice them."
Disagree. If they're juiced up on off-peak hours, utilities would eat the business right up with little extra capex.

Jun 24 05:19 PM

[sickofthehype:]

I noticed you had 1750 comments based on your ID. Were those all cut and paste versions of today's post, placed 1750 times?
Wow. Someone's bored..


On Jun 24 07:52 AM Mad Hedge Fund Trader wrote:

> There are more. I chatted with Jeff Rubin t, former chief economist
> with CIBC World Markets, who reaffirmed my own hyper-bull case for
> crude in bucketfuls. He was in San Francisco, admiring our civic
> planning and mass transit system, as part of a tour to promote his
> new book “Why Your World is About to Get a Whole Lot Smaller: Oil
> and the End of Globalization.” We are in the bottom of the ninth
> inning of the hydrocarbon age. The next super spike will take us
> to over $100/barrel within 12 months of the beginning of an economic
> recovery, and much higher after that. The problem is that we are
> losing 4 million barrels/day through depletion just when demand is
> increasing. The only offset will be dirty, foul, huge carbon footprint,
> $100/barrel Canadian tar sands, which will double, to account for
> 40% of our imports. The biggest increase in consumption is in OPEC
> itself, where consumption has ballooned to 13 million barrel/day
> and oil is being wasted on a prodigious scale, compared to only 7
> million b/d in China. Gas there costs only 25 cents/gal, utilities
> in Saudi Arabia pay only three cents/gallon for bunker fuel, and
> Dubai is blowing 3,000 b/d equivalent running an indoor ski resort.
> Oil over $100/barrel will bring globalization to a screeching halt.
> Economies will go local because it will cost too much to transport
> goods, as we have in the past. No more California avocados in Toronto.
> More importantly, no more Chinese steel in the US, or any other heavy
> exports, which will lead to a resurgence in domestic manufacturing
> and the jobs that come with it. Last year $90 of the $600 cost of
> Chinese steel went to shipping costs. $10/gal gasoline will take
> 50 million of our 240 million cars off the road. Even if we replace
> them with electric cars, we don’t have the power grid to juice them.
> Chinese exports will collapse, but so will their Treasury purchases,
> meaning no more bailouts for us. Oops. Subprime neighborhoods will
> get plowed back into farmland so we can eat. I think Jeff is dead
> on about oil prices. But as necessity is the mother of invention,
> some of his predictions about their impact on international trade
> are a bit extreme for me.

Jun 24 11:40 PM

[one eye:]

Sickofthehype: You hit it on the Button, rare is the comment that isn't replicated on every Article.

Ever notice the number of well known people he Knows and talks to? One would think that somewhere one would be able to find a news item saying XYZ met with him. I must be looking in the wrong places.

Jun 25 04:32 AM

[Shalom Hamou:]

The reason Oil Prices and all Mineral Prices rise is the shape of the yield curve:

See: The Commodity Conundrum Solved!
The Hidden Parameter in Interest Rates.

blog.yield-curve.net/2...

Jun 25 07:56 AM

[A Barrel Full:]

Long term, oil supply will fall, and prices will rise massively, alternatives will take over.

I don't think anyone disagrees with this premise (one day).

In the short term though, peak oil is irrelevant.


On Jun 24 10:57 AM JeffDB wrote:

> On Jun 24 09:30 AM A Barrel Full wrote:

Jun 25 08:56 AM

[fed_alchemy:]

Only one reason..GS wants it up until it doesnt ,I played the supply and demand angle then the dollar and OPEC production cuts

Jun 25 07:39 PM

[one eye:]

In the USA and EU, its all about demand VS excess supply. In Emerging and Developing Countries, its increasing Demand VS Existing Supply.

In the not too distant future, the Developed world will Demand more.

In between, GeoPolitical risks are accelerating and Mexican fields are deteriorating.

Jun 25 10:48 PM