To be blunt, I don’t think crude oil’s fundamentals justify the current range of prices. Geopolitical risk premium, and its consequent price speculation, is mostly to blame.
But I read an article recently that suggests maybe I’m wrong.
Or maybe political posturing wants me to appear wrong.
Since the tension with Iran has risen to new heights (after sanctions, oil embargoes and halted Iranian crude exports to Europe), there has been plenty of dialogue to suggest there still won’t be a supply problem so long as Iran doesn’t get stupid and try to block the Strait of Hormuz.
OK, why not a supply problem?
For starters, Saudi Arabia is said to have enough spare production to compensate for the West’s aversion to Iranian crude trade. Additionally, a string of further downward revisions by the EIA and declining demand for gasoline suggest crude consumption won’t be stressing inventories and supplies as dramatically as once thought. These weaker forces could become even more influential the longer crude oil prices stay high, i.e. demand will continue to contract and economic expectations will be pressured.
But that article I mentioned earlier suggested the spare capacity in Saudi Arabia is fictional. It pointed to the fact that the last time Saudi Arabia was called upon to increase production, they kicked off an additional (and measly) 300,000 per day. And maybe they’re already maxed out, as this MarketWatch article suggests:
LONDON (MarketWatch) -- The International Energy Agency said in its monthly report on Wednesday that global oil demand is expected to grow 0.9% in 2012, as a subdued economic backdrop and high oil prices "both restrain any upside momentum for consumption." The forecast was largely unchanged from last month's projection and the agency maintained its expectations of global demand of 89.9 million barrels a day. OPEC crude oil supply rose by 315.000 barrels a day in February to 31.42 million barrels a day, the highest level since mid-2008. The rise was mainly driven by a three-decade supply peak in Saudi Arabia and a sharp recovery in Libyan production. However, the IEA said that potential losses related to geopolitical concerns about Iran add more uncertainty for the crude oil outlook.
What do other actions say about this “fictional” supply?
I guess one could deduce China is signaling its worry as it builds crude oil reserves. That and, as one of our readers pointed out yesterday, the price of crude oil had a lot to do with China’s massive swing into trade deficit territory last month. I went and found this chart today:
US President Barack Obama and UK Prime Minister David Cameron discussed whether they should dip into strategic oil reserves. No agreement was reached, but it is obvious political posturing is playing at least a small role in Obama’s consideration here.
I tend to think global growth and global demand are not supportive of current crude prices without the geopolitical kicker. Admittedly, that geopolitical kicker has the potential to kick hard at any moment. In the meantime, though, without and until tangible escalation with Iran, geopolitical premium seems likely to leak away.