More oil price speculation

Back in February, I wrote that “oil prices will continue to rise until they have suppressed demand back to match supply”, and forecast a headline barrel price of $120 in June and $145 at year end. Now it’s June and $139.69, what’s next?

My contention that there is more fundamentals than speculation in the current price has got a lot more backing lately, eg Today’s SMH“Oil woes not just speculation”.

The most high-profile backing comes from the CEO of BP, in BP’s latest Statistical Review of World Energy 2008:

“The defining feature of global energy markets remains high and volatile prices, reflecting a tight balance of supply and demand. … the continued weakness in oil supply and increasing demand outside the OECD also highlight the challenges we all face in maintaining secure energy supplies. Maturing basins in the OECD, limited access elsewhere, constrained capacity, higher costs and rising resource nationalism challenge consumers and producers alike.”

We’re running into the interesting end days of the July futures contracts. Options trading on NYMEX closes tonight, and the actual futures contracts themselves close on Friday night. Now, I contend that the period between these two closes is dominated not by speculators, but by oil consumers: speculators will have to sell by Friday night or find somewhere to put the oil they’re now contracted to actually buy and take delivery of. If the price falls sharply, then Monday’s peak of just under $140 was speculative: if it rises, or frankly if it stays anywhere above $130, than that is the “real” price in today’s market conditions.

What does this mean for my predictions? Recall that the core principle in them was “oil prices will continue to rise until they have suppressed demand back to match supply”. Promised supply increases from Saudi (and Russia) will bring less than 1mbd into the market, and some other producers are perforce dropping production as older fields are played out. Meanwhile the BP review gives detail on a 1.1mbd increase in demand in 2007 over 2006, and a likely similar increase this year – possibly much higher as China gears up for huge imports of energy and steel to rebuild Sichuan. So, supply and demand are pretty close to balance, and there’s no room for demand growth to be met, and we’re still looking for the price to go high enough to stop growth. Is $135 high enough?

Well, it is a bit early to say, since we have to remember that the price dropped below $100 as recently as April Fool’s Day, so the impact of $130-or-so crude prices and the concomitant A$1.70/litre ULP / US$4/gallon have only had a short while to impact on consumer behaviour, and some of the resistance to change will come from people’s relative faith in promises from politicians that this can be “solved” by big actions like 5¢ off excise duty or speaking nicely to the Sauds.

On the other side, there is a suggestion here that the consumers are still looking to continue to consume fuel and tighten their belts elsewhere – which will still come back to reduced demand from the producers of the stuff they didn’t buy, but over a longer lag period. This potentially keeps the demand high in the short term, and that can only drive the prices higher. Interim consumer response actions such as truckers blockades seem to have generally driven short-term demand higher with hoarding behaviours and so on.

So, I’ll probably stick to my $145-150/barrel for the year end, but see prospects for that to be reached much sooner (maybe even in July – maybe even this Friday) – and a very real prospect of Goldman Sachs’ much-quoted $200 ‘super-spike’ at some point in the US driving season if there is any significant supply interruption. Anyone betting against Hurricane Edouard, Gustav, or Ike?