Global Crude Oil Prices: More Volatility Ahead

Global crude oil prices declined yesterday following reports by the United States Department of Energy showing larger-than-expected levels of stockpiles. Crude oil for December delivery fell US$2.32 to US$90.85 per barrel on the New York Mercantile Exchange while Brent declined by 1.42% to US$109.35 per barrel on the ICE Futures Europe exchange.

Just one day earlier, Nymex crude futures traded at near three-month highs, the projected decline in stockpiles spurring backwardation — the situation where near contracts trade at a premium to futures — which was last seen about three years ago. United States oil inventories had been on the decline over the past few months and this put speculative upward pressures on the benchmark WTI. Inventories at Cushing, Oklahoma, the hub of U.S oil storage reached a peak in April and have since declined by about 25%. Despite this decline, the WTI-Brent price spread has widened (Figure 2); the implication then, is that other factors other than the high Cushing stockpiles may be driving the spread.

 

Fundamental imbalances in Europe at the beginning of the year combined with the outage of Libyan light sweet crude — a staple feedstock for European refining — to cause steep increases in Brent prices.

This price volatility is likely to endure for the next few months. On the one hand, financial uncertainties threatening the euro zone look set to escalate, with Italy, which boasts one of the largest GDPs of the zone laboring under huge debt burdens. The zone’s sluggish economic growth which implies lower crude oil demand, holds knock-on effects on high-end, oil consumer-countries such as the United States and China. Europe for example is one of China’s largest export markets and Platts reports that China’s apparent oil demand recorded a lower growth rate year-on-year in 3Q ‘11. According to RIGZONE, 1H 2012 demand for OPEC crude oil is expected to fall by 1.3 million barrels per day and this, along with the rapid rebound of Libya’s production would most likely exert downward pressures on prices. In addition, if European banks involved in the funding of oil and gas development projects are impacted by current euro zone debt problems, global crude oil reserves additions would most likely suffer delays and with knock-on effects on prices.

On the other hand, any perceived risk associated with regional unrests and the potential impact on both actual and spare production capacities or ease of transport, would add premiums to oil prices. While flashpoints are difficult to predict, Iran (which boasts the world’s second-largest oil reserves and allegedly pursuing a hostile nuclear weapons program), Bahrain (which is close to Saudi Arabia’s major crude oil production zones), Yemen (which also is close to major international crude oil transport routes) as well as Syria are all areas of concern. Current price levels may well reflect such premiums.

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