Today we have an immediate development to consider: The London oil market is again trying to make sense of events in oil. As I have noted on many occasions, the oil trade in London and the Dated Brent benchmark set here daily are more sensitive to global events than the trade in New York (where the other major benchmark, West Texas Intermediate, or WTI, is set).
Despite being a better grade of oil than more than 80% of the crude traded on a daily basis (and slightly inferior in content to WTI), Brent is the international standard. More oil is traded daily using the Brent price as a standard against which the volume is discounted than any other yardstick.
Anomalies in the oil sector tend to hit the London market first. And today there are two issues at play.
OPEC Holds Production Constant in Oil Market
First, OPEC again released a statement last week that it's holding its production constant. No real surprise here. Yet what the announcement is actually masking has a much more pervasive impact. The Saudi-led cartel has incased its overall monthly production to well over 30 million barrels a day, a figure in excess of global demand levels.
This is continuing to temper what normal demand would do to oil prices at this point. Normally, we would be seeing a more protracted increase in price. Why, then, is OPEC apparently shooting itself in the foot this way?
Because something else is going on inside the cartel, and it is straining the ability of the Saudis to continue controlling OPEC's actions.
The decision last November to keep production constant, opting to maintain market share in competition with the likes of American shale and Russian exports, rather than cutting the amount released to increase prices, did not sit well with several OPEC members.
While all of the countries have economies dependent upon the sale of oil, Nigeria, Iran, Libya, and Venezuela each have budgetary disasters demanding much higher crude prices. Saudi Arabia, Kuwait, and the United Arab Emirates have hard currency reserves sufficient to withstand lower returns.
Therein lies the rising internal tension...
The Saudis Are in a Bind
OPEC maintained the policy in its meeting last Friday, June 5, 2015. In the interim between the decision at the end of last year and today, those members most reliant on higher prices have been selling well in excess of their monthly cartel quotas in a desperate attempt to gain revenue. That the global price has been increasing nonetheless indicates how much additional pressure is coming to bear from rising aggregate demand.
But it has put the Saudis in a difficult situation. They decided to adopt a policy similar to one they introduced in the mid-1980s. Then, in a far different pricing environment, Riyadh decided to discipline members of OPEC selling volume in excess of quotas by opening up Saudi exports to drown the market and collapse prices. Other members understood the lesson quickly and retreated.
Not so this time. The increase in Saudi production is now meant to mask the increasing production by other OPEC members. A move to protect market share has devolved into a losing attempt to justify counterproductive tactics by others.
This is not sustainable. Every OPEC nation, including Saudi Arabia, has been expending hard currency reserves to support low prices (and, thereby, market share). Saudi Arabia just has a larger coffer than others. In fact, all OPEC nations have been raiding their respective treasuries for some time. And three of the most vulnerable (Iran, Libya, and Venezuela) have already publicly called for a cut in production to increase prices.
Even Saudi Arabia, the best-off of all the OPEC nations, still needs a crude oil price averaging some $80 a barrel to pull even. Others require prices well above $100 a barrel.
China Lowers Its Crude Imports
The second issue hitting is the latest misread of what's going on in China. There are reports that Beijing is lowering its imports of crude oil.
Now, some pundits have immediately labeled this an indication of everything from declining Chinese domestic market economic expansion to fears of deflation.
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In reality, however, in addition to seasonal adjustments in oil purchases, the decline in imports also reflects large increases that have taken place in early months. Far from any signal that there is something unravelling in China, it is largely much simpler.
China has been stockpiling cheaper crude for most of this quarter (and last) at discount rates. True, we may eventually see a genuine cooling off down the line. But this isn't it.
As for the price of oil? Both West Texas Intermediate and Dated Brent are up more than 3.2% as of June 9, 2015.
I'll continue to closely monitor the global events affecting oil and other energy investments... and let you know the best ways to play these to your advantage.
Pundits in Denial: It sure has been amusing to watch the instant oil experts trying to shove their "square peg" explanations into the "round hole" price of oil lately. Why do "analysts" keep getting everything about oil so wrong? Here's the primary reason - one it would be wise for them to accept...
About the Author
Dr. Kent Moors is an internationally recognized expert in oil and natural gas policy, risk assessment, and emerging market economic development. He serves as an advisor to many U.S. governors and foreign governments. Kent details his latest global travels in his free Oil & Energy Investor e-letter. He makes specific investment recommendations in his newsletter, the Energy Advantage. For more active investors, he issues shorter-term trades in his Energy Inner Circle.