Tuesday, April 25, 2006

US$70 oil for the rest of the year?

Some of the economists at Morgan Stanley are saying that they are now expecting prices to stay around the US$70 mark for the rest of the year.
The price of crude has broken the $70/b line, crack spreads in the US are close to their post-Katrina peak and geo-political tensions are rising. We are thus revisiting the underlying fundamentals of our price baseline, extend it to 2008 and we look at alternative scenarios.  In a nutshell, our conclusions are:

·We think that crude prices (WTI/Brent) are likely to range between $70 and $80/bl for the reminder of this year; we raise our 2006 annual average forecast from $61 to $73/bl (+19%);

·We believe that markets will remain tight next year, as new refinery capacity is coming slower than we had thought; We raise our 2007 annual average forecast from $48 to $68/bl (+43%);

·We continue to believe that price signals matter and that slower demand and stronger supply will ease tensions in the markets at some point. With the information we have in hand, we do not see that happening before 2008.

·In the short term, markets will remain highly sensitive to the mismatch between marginal demand and marginal supply, to possible supply-side shocks, political (Iran, Nigeria) or natural (Hurricane season)

I've been following their analysis of the oil markets for a couple of years now, and generally find them to be on the money.

What's particularly interesting is the mismatch between marginal supply and marginal demand. For the last couple of years, OPEC has been repeating like a mantra: oil demand may be high, but oil supply is in sync - it's just that refining bottlenecks mean that the oil isn't getting downstream in sufficient quantities. Most of the Gulfi states have taken steps to widen the bottleneck, and are investing heavily in refining capacity at home and abroad to help boost throughput (they're not averse to capturing a larger proportion of the added value that comes with refining and petrochems operations, either). They have also been oversupplying OECD countries so that they can build their inventories, which are now at record highs (as I pointed out last year).

OPEC is now taking on a much more worried tone. Prices prior to 2005 seemed to be largely driven by how much spare production capacity was left in the world, and the cartel tweaked production to keep OECD inventories large enough to sustain a supply shock but small enough to sustain reasonable prices. As prices increased, the linkage between production and pricing began to break down, and the cartel started building OECD inventories so that they could maintain a linkage between prices and inventories.

Now that linkage is breaking down too. Oil prices are continuing to rise despite high crude stocks, partially because of the refining bottleneck and partially because of the political risk premium. And OPEC isn't entirely sure what to do next:

"This price rise occurred despite the fact that the market continues to be well-supplied," OPEC official Adnan Shihab-Eldin told a meeting of the International Monetary Fund's policy committee on behalf of the oil cartel.  . ..

He drew a distinction between the ample supplies on the crude side and tight supplies of refined products.

"The picture on the products side remains tight, given the persistently low levels of refinery spare capacity and more stringent products specifications" in the United States, the OPEC official said.

"As a result, any shortage caused by technical or logistic problems will continue to have a significant impact on the global market, affecting products prices and, consequently, crude oil prices," he added.

Shihab-Eldin lamented that ample crude stocks had failed to tamp down oil price volatility stemming from unexpected supply disruptions or geopolitical concerns.

"Unfortunately the upward rising trend indicates that healthy market fundamentals have been unable to outweigh fears of possible future supply disruptions," he said.

He said the breakdown in the link between inventories and prices had led to an "urgent" need to identify more-reliable signals of price trends. He also said OPEC was concerned over the impact lofty oil prices could have on developing countries, and would monitor development closely.

For their part, the Americans appear to finally understand that OPEC has been doing what it can to bring prices down:

[US Energy Secretary Sam] Bodman said record oil prices of around $75 were causing great "dislocation" in the United States and the rest of the world but there was little producers could do. "We have encouraged producing nations to keep oil markets well supplied – I think they've done that. I would encourage them to do more if they can," he said. "We are in a situation where supply is roughly equal to demand today."

So what next?

Unusually for any future scenario, the long term is clearer than the short term. High oil prices have already sparked investment in refining capacity, which should over the medium term help to minimise throughput disruptions like the ones we have today. They have inspired massive investment in renewable energy - a finance journo friend tells me that at a recent conference he went to, the bankers were falling over themselves to find decent investment opportunities in renewables - which in the long term should bring energy prices down in the aggregate and allow more hydrocarbons to be re-purposed for petrochemicals. And they are bringing about the demise of environment-killing SUVs - no bad thing in my book.

The short term is fraught, however. Uncertainty regarding Iran, potential environmental shocks to the oil supply chain, have created lucrative information arbitrage opportunities to young traders (generally under 25 at the International Petroleum Exchange in London). Take, for example, the unexplained blast in Iran on Feb 16, 2005 - traders at the IPE "were disappointed with security for allowing [Greenpeace activists to invade the trading floor] just at a time when the [crude] market was pushing higher on the back of reports that a missile had been fired at Iran. I kept on trading electronically but I could see the [Greenpeace] guys coming on to the viewing gallery and then they were pushed back."

With near-instantaneous information flows, we are pushing up against the limits of human cognition to deal with the massive volume of data to parse and intepret. Enterprising young traders can exploit the commonly-held belief (true or false) that an attack on Iran is imminent to manufacture a brief spike in oil prices, which, in the full knowledge that it's a micro-bubble, they can make large amounts of money from by using a mixture of put and call options.

The great problem with that is that the media then seizes on the rise in oil prices as evidence of greater instability. A mutual feedback loop then kicks in, with the both the traders and the journalists assuming that the one knows something the other doesn't. Prices spiral upwards, fed by people arbitraging the emotional responses of their peers to over-hyped information.

This is where the self-fulfilling prophecy of all the doom-mongering kicks in. While in the short term the feedback loop appears to have reached some kind of Nash equilibrium - i.e. it makes little sense for market participants to change their strategies in the short term - ultimately the game is one of chicken, in that having both people not swerving (ie continuing to hype prices) is going to result in them crashing into each other (massive reductions in fuel consumption through fuel substitution, efficiency increases or just plain old global recession) and the equilibrium is unstable.

Of course, once that happens the doom-mongers will say 'we told you so all along'...




I've just noticed that Bush has announced that environmental regulations are going to be relaxed and additions to the Strategic Petroleum Reserve deferred until the end of the summer.

US gasoline stocks have plummeted over the course of April. Lower sulphur limits were introduced this year - bear in mind that most of the spare oil capacity in the world is quite sour - and refineries in the US have been undergoing their usual seasonal maintenance cycle. Moreover, after a particularly warm, dry March, especially on the East coast, it seems that the US driving season may have started early.

Bush's decision is likely to take some of the edge off the markets by reducing the pressure on refiners, though how much of an edge it will take off is anyone's guess. I think that it may be a finger-in-the-dyke tactic - it will improve the fundamentals and may bring oil prices down a few clicks, but the spike activity is riding off risk speculation, particularly about Iran, and I don't see that changing just yet.

Wednesday, April 12, 2006

Exploitation for dummies

It's a perennial problem. Your economy is built on extracting the surplus value from a more-or-less indentured labour force, the human resource equivalent of opencast mining. Rape-and-run tactics, as the environmentalists call them, consist on extracting profits short term using morally questionable and environmentally damaging methods - dousing rocks in cyanide to extract tiny amounts of gold, for example, and leaving the accumulated chemicals to seep into the ecosystem; or piling tailings behind fragile dam and hoping that the dam doesn't breach, flooding the rivers and homes beneath it with water rich in heavy metals toxic to most forms of life. In human resource terms, the tools and techniques are intangible, hence harder to discern, but they largely work the same way. Build a dam - be it with guns or law - stop people from organising, take away their liberties by confining them with prison guards or by taking away their passports. Invest the bare minimum in the resource you are mining and extract from it surplus value that will make you rich and powerful. Pile up all your problems behind the dam, and hope that they won't come back to bite you.
Every now and again, though, the dam breaks. In the UAE, there have long been signs that the dam was under strain, but it was when workers blocked Sheikh Zayed Road that the first cracks appeared. The government stuck a thumb in the dyke, creating a meaningless 'black list' of companies that had not paid their workers and then backing down quickly on its initial promises to make the company pay immediately and in full. Then it went back to business as usual.
The riot at the Burj, though, has shown that the dam is in serious need of structural reinforcement. So the government has decided to co-opt the labour movement to buttress the dam.
"Labourers will be allowed to form unions. We're going to have one union, with separate representatives for the construction, fishing, agriculture and other industries," Labour Minister Ali Al Kaabi told The Associated Press.
It is a tactic with a long pedigree. The Soviet Union only allowed state-sanctioned and -controlled unions; Egypt's trades unions have long been a means for the state to force its will upon labour movements. In Mexico, the Partido Revolucionario Institucional's co-option of labour movements helped perpetuate its institutional dictatorship for 80 years. Italy's Syndical Laws of 1926 meant that only fascist trade unions would be recognised; in Nazi Germany, only fascist civil society organisations were tolerated, and collective bargaining was only mediated through the state - that is, not mediated at all. Third Reich Germans didn't have the right to move jobs without express permission from their employers, either.
I'm not saying the UAE is some neo-fascist dictatorship - far from it. But the government could damned well take a better inspiration for its labour policy.

Friday, April 07, 2006

Ali Naimi profile - Newsweek

Newsweek has written a nice profile of Ali Naimi, Saudi Arabia's oil minister. It's largely hagiography, but it has an interesting observation towards the end: Naimi is one of the few remaining technocrats in Saudi society.
"Naimi is from the last generation that was exposed to different ways of doing things, both in Saudi Arabia and the U.S.," says Edward Chow, an oil consultant and former Chevron executive who has worked closely with Aramco. "What happens after him? There are probably a lot of princes who would like his job."
That's very true. The thing is, Aramco and the oil ministry are pretty much the only two things that seem to actually work in the Magic Kingdom, and their independence from the normal power/patronage networks mean that they are a source of genuinely constructive and objective thinking. Look, for example, at this presentation (35mb PDF, download only on a fast machine) made by Salim Al-Aydh, a senior offical at Saudi Aramco, at the Jeddah Dialogue in May 2005. It's startling in its frankness: he basically says "we have a problem, let's actually do something about it, otherwise we're screwed".
Would that culture of clear thinking survive the passing of Naimi?

IMF Art IV consultation with Kuwait

The IMF has published a public info notice on its recent Art IV consultation with Kuwait.
It observes that "Kuwait's overall fiscal position will remain in comfortable surplus over the medium term".
Expect a concerted effort to make resting-upon-laurels the foundation of the Kuwaiti economy.

Wednesday, April 05, 2006

Fake Sheikh (Mazher Mahmood) Photo

The News of the Screws has obtained an injunction (pdf) for 24 hours preventing publication of a picture (right) of Mazher Mahmood, the infamous 'Fake Sheikh' whose award-winning 'investigative' journalism consists of the deliberate entrapment of those who should know better.

Their latest mark, George Galloway, did know better, and is trying to rumble them.

The fake sheikh part and parcel of the News of the Screws' self-righteous desire to chair the court of public opinion, (which has led to paediatricians being attacked by paedo-bashers in Portsmouth, amongst other things), and which goes hand-in-hand with their usual high-minded editorial style of juxtaposing worryingly descriptive accounts of rape investigations with salacious kiss-and-tell stories, all interspersed with pictures of young women wearing little more than smiles.

The injunction expired at 4pm on the 5th of April, BST.

Tuesday, April 04, 2006

Dubai, 'freehold' and market contagion

Dubai released a new property law on the 14th of March. Details(pdf) of the law, which was first shown only to lawyers, have since trickled out.
Curiously, the first two articles - where one would expect to find the definitions of key concepts, not least the contentious Dubayyi interpretation of 'freehold' (actually much more like a leasehold - so far as I can tell, you couldn't knock down your villa and build a new one on the plot, and it is far from clear that you could even add a conservatory or knock out an interior wall) - are omitted from the version of the law that has been circulated. Instead, there's a bunch of stuff about registration of title - which is all well and good and important and useful, but doesn't clear up the essential question of what you have a title to.
Dubai's stock market tanked on the 14th of March. Do you reckon that the government published a half-finished law and told people to report it positively to prevent contagion of a property market blatantly overheated by flipping and other kinds of speculation? Nah - they'd never do that, would they?