The United States is currently bracing itself for hurricane Isaac, which has southeastern Louisiana around early morning today. According to the Bureau of Safety and Environmental Enforcement, 93% of U.S. oil production and 67% of natural-gas output has been shut in the Gulf of Mexico.
New Orleans seems to be the most likely victim of this hurricane, which is even more tragic since the city has not yet recovered from the devastating hurricane Katrina, which caused damages of more than a $100 billion in 2005 and led to a loss of around 2,000 lives.
Historically oil prices, as discussed below, have initially spiked on concerns regarding disruptions in oil production/refining, and then decreased due to macroeconomic factors and decreased demand, triggered by the economic damage caused by a hurricane.
The United States has been a victim of hurricanes for what seems like an eternity; hurricanes have been recorded as far back as 1851. The East Coast has been the victim of almost all the hurricanes that have hit the U.S. mainland. This phenomenon is due to two reasons:
- The water in the Atlantic and Caribbean is warmer, (over 80*F), which helps maintain the hurricane, and
- The hurricanes move west-northwest with the wind direction, which drives the hurricanes formed in the Pacific Ocean further away from the U.S. coastal line, unlike the hurricanes formed in the Atlantic Ocean.
Hurricanes and their Impact
The impact of hurricanes is dependent upon the speed of the wind sustained, based on which the category of a hurricane is determined through the Saffir-Simpson Hurricane Scale.
For a tropical cyclone to be classified as a hurricane, it must have maximum sustained winds of at least 74mph, which is Category 1 on the scale. Category 5, the highest classification on the scale, is for storms with winds exceeding 156mph.
The impact of hurricanes has increased over the years due to the higher population, increased value of property on the East Coast, and increased production of hydrocarbons and refining capacity on the Gulf Coast.
Hurricanes have two opposing affects for oil prices:
- The increase in prices due to the loss in the production of hydrocarbons from the Gulf of Mexico and suspension of refineries on the Gulf Coast, thereby decreasing the supply of crude oil and finished petroleum products in the U.S., and
- The decreased demand for petroleum products due to the economic damage caused by hurricanes.
Hurricane Katrina is the deadliest (based on property damage and loss of life) hurricane to have hit the U.S., and it hit New Orleans on August 29, 2005. The hurricane caused damages worth more than a $100 billion dollars and left around 2,000 people dead.
Even though Katrina was a Category 3 hurricane, it was far more damaging then stronger hurricanes witnessed in the past due to its landfall on a major city, which was not prepared to withstand such a calamity.
Katrina, as can be seen in the map shown below, hit the U.S. mainland through the Gulf of Mexico.
The prices of West Texas Intermediate (WTI) witnessed an increase of about 6% in the first days of the landfall of Katrina and reached $69.81/bbl on August 30, 2005. However, prices softened soon and declined by 5% over the next month and were trading at $66.24/bbl on September 30, 2005; they continued their downward trend going forward.
Hurricane Ike is ranked the third deadliest hurricane to hit Louisiana and Texas in the U.S. on September 13, 2008. The hurricane caused damages of around $27.7 billion and was a Category 2 hurricane. Some of the areas affected by Ike were still recovering from the damages caused by Katrina.
As can be seen from the map below, Ike followed a similar path to Katrina and passed through the Gulf of Mexico.
The prices of WTI dropped in the first few trading sessions, but were up 20% at the end of the first week after the hurricane hit the U.S. coast line and spiked to $120.92/bbl on September 22, 2008.
Soon afterwards, the prices of crude began to follow their previous downward trend caused by the financial meltdown of 2008 and the price of WTI came down 17% by the end of September.
Hurricane Irene is ranked the fifth most costly hurricane to have hit the outer banks of North Carolina on August 27, 2011, with an estimated damage of around $15.8 billion and 67 people lost. Even though Irene was a Category 1 hurricane, it caused widespread damage and was the first hurricane to landfall the U.S. since Ike in 2008.
As can be seen in the map below, Irene did not follow the path of its predecessors mentioned above.
The price of WTI was up 4% after two trading sessions of the hurricane hitting the U.S. coastline and reached $88.9/bbl. However, prices were down 11% at the end of September and reached $79.2/bbl due to global macroeconomic conditions.
Hurricane Isaac is expected to follow a similar path to hurricane Katrina and will most likely landfall on New Orleans. Even though the magnitude of Isaac is lower, being a Category 1 hurricane (current speed of 80 mph), it will have a significant economic impact. This is due to increased production of hydrocarbons from the Gulf of Mexico and New Orleans being a main city.
The Gulf of Mexico accounts for 23% of the crude oil production, 7% of natural gas production, 44% of refining capacity and 30% of the gas processing capacity in the U.S.
As seen above, oil prices have shown a mixed response to hurricanes, with an initial spike in oil prices followed by a downward trend. These downward trends were witnessed either due to macroeconomic conditions (Ike and Irene) prevalent at the time or due to the economic loss undergone due to the hurricane (Katrina).
Anadarko Petroleum Corp. (APC), British Petroleum (BP) and ConocoPhillips (COP) are among some of the companies that have suspended production and evacuated their employees. In Louisiana six refineries have been shut and three are running at low capacities, which have shut 6.7% of U.S. refining capacity.