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The (New) Truth About Oil

by | published August 15th, 2011

Traditionally, demand levels would determine the overall condition of the oil market. Supply (and the investment required for that supply) would be based upon what demand told us.

Actually, oil never reflected the demand-supply relationship as well as other sectors of the market. Oil has an irritating habit of not reflecting what it should in the dynamics of market play. Until recently, petroleum economists would comment (or lament) about the demand inelasticity of oil. That means, due to the lack of available alternatives (especially in transportation), demand for oil products would not decline as the price rose.

Such a relationship has certainly been tested over the last several years. The New York market price for West Texas Intermediate benchmark crude (WTI) moved from a $147.27-per-barrel high in July of 2008 to below $33 by the end of that year, only to rise again to almost $114 by the end of April of this year. It's moved back down to the $85-$90 range since then.

We did witness some demand destruction in the summer of 2008, and then (to a much lesser extent) in the spring of this year, with the rise of prices at the pump to well over $4 a gallon.

Yet what must be remembered is the simple fact that developed countries no longer call the shots in oil demand.

This is now – officially – a global market.

On the production side, of course, it has been a global market – for more than 50 years. The primary reserves are located in the Middle East, the former Soviet Union and offshore in places stretching from Vietnam and Australia to the Arctic basin. The supply side, therefore, has been global for some time.

But now the demand component is also global in scope. This changes everything, as you'll see. And there's even a way to track this new (and more accurate) demand for oil.

Three “Crude” Shifts

By fixating on U.S. demand, analysts exhibit an out-of-date tendency. The description of the American market as “having less than 5% of the world's population yet consuming 25% of the world's energy” no longer has the impact it once did.

Yes, the U.S. remains one of the two largest end users internationally (the other being China). But the spike in demand is coming from developing parts of the world. As demand figures move latterly in North America and Western Europe, they are accelerating elsewhere.

Three elements are leading to this rise.

1. The industrial and production advances in China and India, along with the East Asian recovery and the more recent moves in Indonesia, have resulted in substantial increases in energy demand. That translates primarily into an increase in the need for oil.

2. OPEC members such as Saudi Arabia and Kuwait, as well as main non-OPEC producers like Russia, have been withholding more of their crude from the global market to advance their own refining and petrochemical sector. The move is not simply to supply rising domestic demand, but also to provide a larger value-added oil product export stream to improve return.

3. Regions usually ignored by analysts are registering accelerating demand. One of the most pronounced is West Africa…

Nigeria is certainly a major international oil producer (and one of the last sources for prized light sweet crude, which requires less processing). However, the country has insufficient refinery capa

city, resulting in most of the crude being exported.

On the other hand, Nigeria produces only about 15% of the electricity needed daily. That means 85% of the power comes from private generators. Those generators run on diesel. And the vast majority of that diesel must be imported.

Similar trade cycles are emerging in other areas of Asia and Africa. They are likely to become more pronounced.

The combination of these three factors completely overwhelms any sluggishness in U.S. demand figures. This offset is continuing.

So what does this tell us about the overall picture?

Demand Is Hitting An All-Time Record

Global demand will come in this year at an average 88.2 million barrels per day, an all-time record. That level will extend to 89.4 million barrels per day by mid-2012.

Yet, the headlines today speak of OPEC decreasing demand forecasts. The OPEC projection had been at 88.7 million barrels for this year. That higher figure, however, had been more political than anything else. It was advanced before the last OPEC meeting, in which Saudi Arabia failed to entice a production increase.

That was followed by Riyadh unilaterally increasing production some 500,000 to 700,000 barrels per day (nicely matching the difference between the two estimates, by the way) along with the poorly-conceived International Energy Agency (IEA)/U.S. move to release 60 million barrels from strategic reserves (half of that U.S.).

The reserve release accounted for only 18 hours of international demand.

It was never a factor.

The important point to remember is this:

The global demand rise between June and the end of the year is poised to absorb all of the additional Saudi volume… and would have swallowed up continued IEA monthly releases as well.

The demand picture has not changed. In fact, as the market has revealed a number of times before, any short-term reductions in the price will merely result in an additional encouragement to demand.

The global picture is one of the primary reasons why Brent, the London benchmark used more often to determine prices in other regions, has a price more than $20-a-barrel higher than WTI traded in New York. That has been the case now for a year, despite WTI being a slightly better grade of oil than Brent.

The vast majority of oil traded on a daily basis globally is inferior in quality to both of these benchmarks. But Brent is employed more as the standard against which oil is bought and sold at discount.

You can track the price of Brent right here. There's an ETF that tracks it, too – the United States Brent Oil Fund (NYSEArca:BNO).

Keep an eye on it, because it will tell you what is really happening worldwide.

Sincerely,

Kent

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  1. Jon Imler
    August 15th, 2011 at 13:20 | #1

    You speak of developments in W. Africa but fail to discuss exploration developments off the Namibia coast. What can you tell us about that?

  2. bo eklund
    August 15th, 2011 at 13:33 | #2

    Dear Kent,
    I am very pleased only by reading your mails containing facts and personal comments. I am 70, living in Cairo (and in Sweden). I am continously trying to keep up to date with markets, political movements and, from time to time, making some extra money.
    I feel very comfortable reading your texts – expecially as a counter weight to the talks I have with people I meet in Egypt. ..
    Like an amateure I am following your advices reg new companies to keep an eye on – so far your advices seem to be accurate..

    Today´s text about not giving only the WTI the importance made me wright this comment as being more or less a gobe member…
    Many thanks for your articles,
    Best regards
    Bo

    PS I have have a co in the town of Mazeikiai in Lithuania where the SSSR built one of their refineries at that time – oil and the refined products are very crucial to the people there…

  3. JOHN J DUNN
    August 15th, 2011 at 15:17 | #3

    Jon Imler :
    You speak of developments in W. Africa but fail to discuss exploration developments off the Namibia coast. What can you tell us about that?

    @Jon Imler

  4. JOHN J DUNN
    August 15th, 2011 at 15:19 | #4

    I would like info about the canadian co that had a big interest there.

  5. archivesDave
    August 15th, 2011 at 17:00 | #5

    Kent:
    STILL awaiting your comments on abiotic oil as well as the two huge oil finds in Alaska tapped off by our govt. since the 70s.
    Evidently, according to Lindsey Williams, one of the largest drilling rigs in the world, ‘The Liberty’ is up at Gull Island waiting for govt approval to drill eight miles down.

  6. nouri
    August 16th, 2011 at 10:23 | #6

    It used to WTI, which was more expensive so why now brent
    I am a tunisian profssor I find the plaisr to read your comment
    thank you

  7. August 16th, 2011 at 12:28 | #7

    Dear. Dr Moors, what really intrigs or make me total negative to this
    offers,deals,opportunities, stocks super millions % increases; is no one produces a simgle job to the America People, no simgle part time to me that I am retired, Only to the riches and for the riches.
    I don’t bilieve you and many more than hundred thousands out there can help the Country any inch ahead, this is not good to anyone right now. Be honesty good if you can keep grouing more millions for you, and jobs to this Country that is bankrucpty for many people. Amen

  8. Henry Ceglowski
    August 17th, 2011 at 14:33 | #8

    why do u say no to natural gas when if everbody would covert over to natural gas it would double thier milage,out of all cars ,how would that off set your demand theory,it can also be factory installed ,how about converting over to a multi- fuel cars,ones that run on anything like vegatable oil,used oil at that stuff we throw away,instead I could run it in my car ,i think if the big oil companys would let this kind of cars out they would still make their money ,that is what it is all about isn’t “MONEY”

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