Oil Prices Surge to Two-Year High on Middle East Turmoil

By , Contributing Writer, Money Morning •

Protests in the Middle East drove oil prices to a two-year high yesterday (Tuesday) as anti-government violence spread in Libya, threatening the nation's oil industry and raising the possibility the contagion could soon affect larger producers in the region.

Oil jumped more than $7 a barrel, breaching $98 for the April contract of West Texas Intermediate (WTI) crude on the New York Mercantile Exchange. Meanwhile, Brent crude climbed as much as 2.7% to $108.57 on the ICE Futures Europe Exchange.

"Oil is being bought on the risk that this contagion will spread through the Middle East," Jonathan Barratt, managing director of Commodity Broking Services in Sydney, told Bloomberg News by telephone. "This effect is a knee-jerk reaction to the fact that this could spread."

Libya is the latest chapter in a saga of unrest that began in Tunisia in January and has raced through North Africa and the Middle East in recent weeks.

Iran added to the tension in the region yesterday by entering two of its naval ships into Egypt's Suez Canal headed toward the Mediterranean. Israel considers the presence of Iranian warships sailing through the canal "a provocation," Foreign Ministry spokesman Yigal Palmor told Bloomberg.

Fears of massive disruptions in the market have oil traders on edge and the energy markets are now braced for an even sharper run-up, according to Dr. Kent Moors, a noted energy expert and editor of the Oil and Energy Investor.

"That traders do not regard this as a short-term problem is seen in the futures contract curve. We have an escalating and contango market, one in which each month further out has a higher price than earlier months," said Moors. "The volatility will now kick in big time, and that will further unnerve the trading environment."

Libya's importance as an oil producer is more symbolic than anything else.

Libya produces only about 1.6 million barrels of crude per day (bpd), compared to worldwide production of 87 million barrels, Peter Beutel, an oil analyst with energy risk management firm Cameron Hanover told CNN.Money.com.

Instead, the biggest danger is that the political unrest could spread to Saudi Arabia, the world's largest exporter of crude at 8.4 million bpd.

"Tunisia and Egypt were disconcerting. But the unrest in Bahrain and Libya is far more dangerous," said Dr. Moors. "Bahrain is located strategically in the worst place for such an uprising...because Bahrain connects directly to the eastern province in Saudi Arabia that contains its principal oil production."

If political unrest in Libya spreads to other oil-rich countries and the ensuing chaos disrupts crude oil production in Saudi Arabia, the implications could be huge.

One obvious result would be that U.S. motorists could be paying a lot more at the pump. Prices for gasoline could hit $5 a gallon by peak summer driving season, industry analysts say.

"If this thing escalates and there's a good chance that there'd be a shift in supplies, $5 gas isn't out of the question," Darin Newsom, senior analyst at energy tracker DTN told USA Today.

The average price of regular gasoline is expected to rise to $3.25 within a few days, 2.5% above Tuesday's $3.17 national average, according to Tom Kloza, chief analyst at the Oil Price Information Service. Gas prices are up 20% from a year ago but remain 23% below the record $4.11 average set in July 2008.

But while riots in the Middle East are one factor driving fuel prices higher, there are also other reasons for the surge.

A rebound in the U.S. economy, rising demand from emerging countries the approach of the summer driving season are likely to push gas to $3.75 to $4 a gallon by July.

"We have all the wrong things working together at the right time: an economic recovery, stocks making new highs, a lower dollar, strong seasonal demand and unrest in the heart of oil production," said Beutel.

Gas prices of $5 a gallon or more would have a significant impact on the broader U.S. economy.

"The money that you spend filling up your car is money you don't have to spend at the shopping mall," David Wyss, chief economist at Standard & Poor's told The Wall Street Journal.While $100 oil "is a number we've seen before, it's still going to squeeze consumers' budgets."

If oil prices hit $100 a barrel and stay there it could also put a dent in the wider global economic recovery.

Each $10 move higher in oil prices can knock a few tenths of a percentage point off gross domestic product (GDP), or the total value of all goods and services produced. The world currently spends roughly 5% of GDP on petroleum products, a level last seen in 2008, when oil briefly hit $150 a barrel, The Journal reported.

Worldwide stock markets would tumble on any surge in oil prices.

"If oil continues to rise and the dots get connected beyond Libya, then you can set yourself up for a setback in stocks," David Sowerby, a money manager at Loomis Sayles & Co. in Michigan, told Bloomberg. "People are going to wait and see what type of unrest there is in the largest producing oil countries."

News & Related Story Links: