Editore"s Note
Tilting at Windmills

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June 18, 2005
By: Kevin Drum

STUDYING THE OIL MARKET....Oil prices continued their recent climb this week, reaching a new high of $58 per barrel on Friday. What's causing this increase? Here are some of the explanations on offer:

  1. Dow Jones Newswire: Mohammad-Ali Khatibi, director of the Tehran-based International Center for Energy Studies' OPEC research office....said current production of 85 million b/d would be surpassed by projected demand rises to 87 million b/d in the fourth quarter, leaving producing countries having to pump an extra two million b/d, which they won't be able to do.

    Houston Chronicle: "I would argue it's quite connected with fundamentals," [said. Tom Petrie of energy advisory firm Petrie Parkman & Co.] "This market has developed a healthy skepticism based on the reality that Saudi Arabia and other key OPEC suppliers are doing a lot more talk about new supply than actually providing it."

  2. BBC: The Saudi oil minister Ali al-Naimi warned that without additional oil refineries there would still be a shortage of the oil products in demand. "There is no shortage of oil. It's there. What is driving the price is the inability to make the oil into products," he said.

  3. Los Angeles Times: Fadel Gheit, senior energy analyst at investment firm Oppenheimer & Co. in New York...noted that OPEC already was producing 30 million barrels a day regardless of its quota. "There is no spare capacity, period, and the market is realizing that," he said.

  4. New York Times: The possibility of a terrorist attack in Nigeria was enough to tap the oil market's fear that demand-driven pressure on prices might evolve into a full-blown supply-driven crisis.

  5. Reuters: U.S. data this week showed brisk consumption of transport fuels, renewing concerns about refiners' ability to meet peak summer gasoline demand and to build heating oil and diesel fuel inventories for later in the year.

  6. Wall Street Journal: "This is really being driven by hedge-fund money," [said Anthony Lerner, manager of energy derivatives for Arc Oil LLC.] "We're seeing new hedge-fund money coming in every day."

  7. Forbes: Inventories of crude [fell] by a larger-than-expected 1.8 million barrels last week to 329 million barrels, according to the U.S. Energy Department's weekly supply snapshot.

  8. Associated Press: Fears of potential refinery glitches during the hurricane season in the United States have also added to market insecurity in recent days.

So: the problem is that OPEC can't increase production; refineries can't increase production; there's no spare capacity; instability in Nigeria is causing panic; summer driving demand will be high; hedge funds are roiling the market; inventories are down; and fear of hurricane season is making everyone nervous.

In other words, no one has a clue what's really going on, so they're just tossing out every possible explanation they can think of. This is actually less unusual than you might think, since one of the peculiar little secrets of the oil industry is that no one actually knows what drives prices up or down. However, it seems to have reached pathological proportion in the past few weeks, and that's not a positive sign.

For what it's worth, I've ranked these explanations based on my guess of their importance. Basic supply problems (#1 and #2) are most important; razor thin spare capacity and related fears of sudden disruptions (#3 and #4) are next; and concerns about summer driving, winter hurricanes, inventory levels, and hedge funds are mostly just random noise.

Kevin Drum 1:27 PM Permalink | Trackbacks

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