Oil prices at a crossroads
A number of elements to the oil pricing dynamic have been jostling for dominance in the market so far this week with the result that oil stands at somewhat of a crossroads.
The decision by OPEC to shave around 500,000bpd from production required some assessment before the true context of the move could be applied.
The departure of Indonesia from the cartel clouded the issue somewhat with regard to the actual output ceiling but the thrust of the message delivered by the organisation which accounts for 40% of global production is that they have moved to a defensive position with a view to protecting $100/bbl. The communique called for producers to 'strictly comply' with the quota - a nod to the fact that the previous quota was exceeded by around 800,000bbls. The ability of OPEC to influence prices inevitably rests on the tightness in the market.
Offsetting the potentially bullish OPEC move was the IEA data which pointed to softer demand for the remainder of the year (due to lower demand) and this scenario will extend into 2009 as global growth slows.
The third element is the hurricane activity in the US Gulf. The impact of Gustav, which necessitated lock-downs on much of Gulf production was seen in the weekly EIA data showing crude stocks dropping by 10mio bbls, versus an expected 4.4mio bbl draw. This situation will continue until Hurricane Ike makes landfall at the weekend.
Latest projections suggest that the system will make land between Corpus Christi and Galveston, both relatively important in terms of oil refining. This factor, given its unpredictable nature, is currently putting a brake on the downward impetus.
Lastly the US$ strength is distorting the fundamental underlying supply-demand relationship as short dollar-long commodity plays are unwound. The inverse correlation between the greenback and oil is weaker than earlier in the year but still remains an important factor.
Undoubtedly the clear picture on trend will not emerge until the impact or otherwise of Hurricane Ike is known.
The underlying picture of demand and supply is undeniably tilted towards the demand side and there is a suspicion that this emphasis has been overdone. One cannot exclude the possibility that the US$25-30/bbl excess attributed to the financial speculators as the market reached record highs in July may well currently be manifesting itself as bearish plays and the downward move may well have been overdone relative to fundamentals.
The reluctance of the back months to show much inclination to trade below US$100 reflects this.
Between now and the end of the year the US$100-US$110 range will likely play out with only fringe divergences on extraneous factors.
For today expect the bulk of price action on Brent to occur between US$99.50-US$103.
