Crude trading remains detached from realities of supply-demand

Abu Dhabi: In the world's largest oil consuming economy - and the world's third largest oil producing economy - the US Senate introduced regulatory bills to reign in speculation in oil and energy markets, largely blamed for today's high prices.

But the New York Mercantile Exchange was unfazed as traders established a new price support floor above $130.00 per barrel. New York WTI crude closed Friday at $134.86.

Last year at this time it sold for $68.00.

At last week's producer-consumer Opec conference, Opec also blamed speculation for high crude prices, stating categorically that markets are well supplied.

This is a complicated issue: Speculation of the kind in which markets are deliberately manipulated for the benefit of speculators is just not occurring.

What is occurring is crude contract buying in the presence of rising prices, causing prices to move even higher in a self-sustaining price cycle detached from the realities of physical crude supply and demand.

The market's new bottom above $130.00 is strengthened by modestly contango prices listed for the back contracts, those for delivery of crude in later years. From August 2013 all the way to December 2016, the farthest out contract listed, crude prices are higher than the cash price.

This reflects both the higher costs for holding oil that long, and also that oil prices are not expected to ease in future.

The DME Oman contract strengthened, riding on the back of the New York price, closing the week at $130.21 (OSP) and $131.46 in after-hours trading. The differential between light sweet and heavy sour has never been less, just -2.25 per cent.

Local crude

Light sweet is cheaper to refine and yields more pricy light ends - gasoline and naphtha - than the heavy sours. But the closeness in price between the two disparate crudes indicates that Gulf oil is not being discounted in today's markets.

Sour refining capacity will increase, but the main reason for the diminished negative differential is purely from increased demand by Asia for Gulf crudes, a demand expected to strengthen as Asian nations continue to show compounding rates of economic growth.

Speculation (!) that Opec will increase production by at least 500,000 barrels per day in the near future, combined with their anti-speculation statements, did nothing to reduce the Opec crude basket price, which ended the week at $129.77, up from $118.77 a week ago.

Natural gas steady

Nymex natural gas has been remarkably steady in the presence of price instability over in the crude trading pits.

Natural gas futures contract prices are in a backwardation pattern, with the back contracts lower priced than the nearbys. The reason for this is not clear, since natural gas prices are, by all estimates, expected to increase over time.

But higher cash prices could be reflecting its increasing popularity compared to crude oil.

The back contracts could gain steadily, especially with any reports of gas cartel formation discussions, such as a charter based on the 15-member Gas Exporting Countries Forum. Discussions are scheduled for October.

- The writer is an associate professor of Economics and Petroleum Market Research at the Petroleum Institute, Abu Dhabi.