THE ANALYSIS GAP: OIL MARKETS
Conventional oil market analysis is focused on traditional economic factors. The only intangible factors left to deal with is the sentiment of OPEC (to abide by quotas, increase/decrease quotas, etc.) and Saudi Arabia's maximum production capacity (a closely guarded secret). This type of analysis has worked fairly well in the past, but it has recently reached an impasse. It is no longer explanatory or predictive. This brief explains the problem, and what can be done to correct it.
A Window of Vulnerability at the Edge of Criticality
The oil market has reached an imbalance where disruptions in supply caused by terrorists can generate outsized increases in price. Here's why:- Demand growth has outstripped the growth in supply. China and India have become economic powerhouses with voracious and rapidly growing appetites for oil. As a result, the maximum supply of oil available (due to long lead times on new production capacity and fewer new high quality sources) is now barely able to meet current global demand. Excess production capacity has been estimated at less than 1 m barrels a day (a little more than 1% of global demand).
- Inelastic demand. The demand for oil is relatively unresponsive to price increases. In this market situation, large increases in price will not appreciably impact the quantity of demand in the short run. The net result is that the price of oil can fluctuate up and down wildly despite the best efforts of suppliers (due to their lack of excess supply capacity). In effect, OPEC has lost its pricing power.
The New Participants
The price of oil is now in the hands of small, violent groups (terrorists, guerrillas, gangs, tribes -- take your pick..) that can disrupt supply. They bomb pipelines, impair corporate operations, and interdict other mechanisms of production with increasing levels of effectiveness. Their activities are the primary reason oil is over $58 a barrel today. These groups include:- Iraq's guerrillas. These guerrillas have successfully kept Iraq's production, despite billions in investment, from reaching pre-war levels. This has kept the country with the world's second largest reserves from correcting the current imbalance.
- Others. New participants such as Nigerian tribes, Kurds in Turkey (PKK), Balochs in Pakistan, and Chechens in Russia (to name a few) have joined to disrupt oil production and transport globally.
- Global targets of potential disruption (now and future).
- Scale and frequency of disruptive events in target locations.
- Iraq's resumption of production.
In my day job I am now a securities trader (whereas before I was a systems integrator / analyst that happened to be focussed on the oil and gas business). Never before have I seen such a prolonged period of time where intraday price movement in the regular equity markets is so closely tied to the price of oil.
In my opinion that markets have priced in as much uncertainty as they can at the moment; the next major disruption will of course set price (crude) screaming higher.
In the meantime I do not expect prices to dramatically drop, not with the uncertainty that exists at a time when demand even domestic demand continues to surge and China GDP growth of 16% tells us that energy demand growth continues apace. Its not just raw energy that China sucks up but also building blocks for other products, such as ethylene related compounds used in plastic production. Demand, demand, demand...
There are different strategies for profiting off some future event. Levering the crude futures market is among the easiest, although the riskiest in the short term due to price volatility unless ones strategy specifically targetst that volatility (mine does) for profit.
I also hold large core positions in energy equities and I've attempted to design these around safety of supply; oil being a world wide market as long as my producers are not the one hit, an attack elsewhere results in profit not profit taking. For example, US and Canadian producers (without production or transportation in/through hotspots) are relatively secure as compared to those operating in other areas of the world. One of my favorite companies - whose management I know quite well and trust - unfortunately has some investments in Indonesia but its a smaller part of their profile and thus I tolerate it.
We've also seen some companies pull back from overseas activity. Precision Drilling is hunkering down around north american assets as is EnCana, N.A.'s largest producer of natural gas.
I rather like the ECA story as natural gas, for the time being, is largely a north america production and consumption story, and, its largely a natural gas story - a little energy diversification is a healthy thing.
I do have concerns over domestic security of supply and production; investing locally is no panacea. Having been to some of the large plants that service big percentages of N.A. demand, I can tell you that they are far less secure (physically) than those in Saudi Arabia! Hopefully that is changing but I've my doubts.
Posted by: Michael Watkins | Sunday, 19 June 2005 at 10:56 AM
"Inelastic demand. The demand for oil is relatively unresponsive to price increases. In this market situation, large increases in price will not appreciably impact the quantity of demand in the short run..."
The long-term vs. short term raises its head again, and the repeated failure of market-forces, when left to themslves to account for long term (or even medium term) interests of society raises one of the most credible cases for government intervention/regulation in markets to achieve long term strategy. There are several good examples of governments leading long term initiatives, that the private sector alone would not have been capable of. For example Airbus, funded by European Governments as part of their 'Indusrial Policy' and it is now up staging Boeing in some areas, and is a serious source of export revenue for Europe.
However, any effort to introduce government forces into regulating markets in the U.S. is decried by those "market fundamentalists" (George Soros' term) a is rejected, really without a serious hearing.
This 'market fundamentalism' blinds the US to many opportunities that it needs to invest in now (actually, US needed to start investing in these things 20 years ago, it is already too late, the train is leaving the station!)
Things such as wind power, energy conservation, solar, fusion, our rail transport infrastructure have all been languishing, without anyone to champion their cause.
Now, as of late, there has been some movement in sustainability (as an Architect, I can say that many clients are investing in sustainability, but the efforts are now where near what they need to be.
I hope that, at some level, the national security establishment is not blinded by free-market fundamentalists, and will take a pragmatic approach here and begin to encourage sustainability and some of these issues listed above.
See any movement in that direction? I don't, but there will be some shock to supply in the next several years, and everyone will say, "Why didn't anyone do anything? Quick, fire somebody NOW! Let's have a recall election!"
Well, hello everybody let's demand action now not when it's too late....
Posted by: enigma_foundry | Thursday, 14 July 2005 at 10:00 PM
Buenos Aires, 11 ago (PL) Los presidentes de Argentina, Néstor Kirchner, y de Venezuela, Hugo Chávez, enaltecerán hoy aquí la alianza estratégica entre sus respectivos países con la firma de varios convenios y la extensión de otros.
Presidentes brasileño y venezolano celebrarán encuentro de trabajo
Procedente de Uruguay, Chávez llega a Buenos Aires para una breve visita de trabajo, quinta que efectúa al país austral luego de la asunción de Kirchner, en mayo de 2003, y segunda del corriente año, tras la realizada en febrero pasado.
El mandatario venezolano y su anfitrión pasarán revista a los acuerdos suscritos a partir de agosto de 2004 en Puerto Iguazú, considerados clave en su asociación estratégica, anticiparon a Prensa Latina fuentes diplomáticas de la República Bolivariana.
Los gobernantes rubricarán un Convenio de Integración, "cuyo objetivo es promover la cooperación que profundice los procesos de integración política, económica y social", indicó, por su parte, un comunicado del Ministerio de Relaciones Exteriores de Argentina.
Entre los pactos sobresale uno para la construcción aquí de dos buques petroleros de 47 mil toneladas cada uno solicitados por Caracas, por un monto de 56 millones de dólares.
La fabricación de esos barcos, denominados producteros, se llevará a cabo en los astilleros de Río Santiago, en la provincia de Buenos Aires, y demandará la creación de unos mil nuevos puestos de trabajo.
El armado de los cargueros comenzará una vez que finalicen las obras de infraestructura que permitan reacondicionar las citadas instalaciones con fondos aportados por el Estado nacional.
Según el programa, tras su encuentro a primera hora en la Casa Rosada (sede ejecutiva), ambos estadistas se trasladarán en helicóptero hasta el Astillero Río Santiago, donde serán recibidos por el gobernador bonaerense Felipe Solá.
Esta será la segunda ocasión en que Chávez visita ese centro de construcción y reparaciones navales.
En 2004, los dos presidentes acordaron la contratación de los servicios de la propia empresa para la reparación de varios buques de la flota petrolera bolivariana.
Caracas y Buenos Aires anunciarán también la renovación del acuerdo energético de provisión de fuel oil y gas oil.
En febrero último, los dignatarios firmaron cuatro documentos referidos a acuerdos y compromisos en materia petrolera, agrícola, sanitaria y para la construcción de cuatro buques en el país.
El memorando de mayor volumen resultó el suscrito entre la Empresa Petróleos de Venezuela (PDVSA) y la Compañía Administradora del Mercado Mayorista Eléctrico de Argentina para la provisión de importantes volúmenes de combustibles líquidos.
PDVSA, trascendió entonces, proveerá productos combustibles líquidos derivados de hidrocarburos, consistentes en volúmenes de fuel oil hasta un total de ocho millones de barriles y de gas oil hasta un millón de barriles anuales.
Como contraprestación, Buenos Aires enviaría a Caracas productos agrícolas y sanitarios, en un formato comercial tipo trueque, y tomando como base un fondo especial acordado entre ambos gobiernos.
En el marco de su política para consolidar la integración latinoamericana, Venezuela contribuyó a paliar la crisis energética que padeció Argentina en 2004 y este año le compró bonos de su deuda externa por 500 millones de dólares, entre otros gestos.
Posted by: marianela | Thursday, 11 August 2005 at 03:44 PM