Hang On, It Could be a Wild Ride
by Charles H. Featherstone
Thursday was a bit of a wild day for the London and New York crude oil markets. The New York Mercantile Exchange's April light, sweet crude future contract spilled over $55 per barrel, reaching as high as $55.20 before settling down at $53.57 – the highest NY crude futures have been in four months.
UK Brent – the standard for much of the world – ended trading at $51.95, it's highest close in 17 years.
The story from traders is that the rally was driven by heavy buying from funds and institutional investors, who for whatever reason(s) stampeded the oil and products markets. In fact, pension funds have bought big into global commodities markets, being one of the few places right now with a guarantee of significant returns.
There also seems to be some panic brewing over US gasoline stocks, with many traders doubting the veracity of US government data released this week showing an increase of gasoline stocks along the Gulf Coast. At the same time, the American Petroleum Institute reported a decrease in gasoline stocks, and the Energy Information Agency – which publishes storage data for crude, refined products and natural gas every week – said it would look into the matter.
Sounding the alarm, Kevin Kerr of Kerr Trading told CBS MarketWatch that "For weeks, many analysts have been downplaying the grave situation gasoline stocks are facing this summer but now they are...acknowledging that there may be some serious problems."
But there was also the statement from OPEC's chief economist, Adnan Shihab-Eldin, who told Kuwaiti newspaper al-Qabas that while it is difficult to forecast just how high the price of New York crude oil futures could go, he could not "completely exclude" the possibility that crude futures could hit $80 in the event of "a major supply disruption."
Such a price spike "would not be sustainable in the long term," Shiab-Eldin said, adding that he was not entirely sure that benchmark crude prices in the $50–$60 range is sustainable either.
Which has been OPEC's line, since most OPEC crude doesn't sell for anything close to $50 per barrel anyway.
Shihab-Eldin did not say what he thought might cause a "major supply disruption," aside from the generically vague "geopolitical tensions and possible supply disruptions."
The first thing that came to my mind was: a US attack on Iran, Syria or both.
I cannot prove it, but I think the prospect of war with Iran has been haunting world oil markets since last summer, when the price broke $40 and then wandered on up past $50. Sure, there were other things affecting the price of Brent and West Texas Intermediate, most notably short gasoline stocks in the US and unrest in Iraq. But ever since the Bush administration committed itself to filling the 700 million Strategic Petroleum Reserve by the middle of this summer, I think a lot of people believe that reserve is being filled to make up for the huge disruption in world crude oil supplies that any sustained attack – air campaign or land invasion – of Iran would most assuredly bring.
(Right now, the Strategic Petroleum Reserve – a collection of salt domes in Louisiana and Texas – holds 682 million barrels of sweet and sour crude, and given the current fill schedule, should hold about 694 million by the beginning of June. Not quite full, but close enough for government work.)
Vice President Dick Cheney said last year that the reserve would only be tapped if the US lost 50% of its daily oil imports, which right now total around 11 million barrels per day. That means, if the Veep is a man of his word (like him or not, and I don't like him, you can usually bank on what he says), US refiners would have to lose access to about 5.5 million barrels each day.
That's a lot of crude. Especially given that two of the three largest suppliers of crude to the US are its nearest neighbors, Canada and Mexico.
But I think it's entirely possible that, in the event that bombs start falling on Damascus, Tehran, and Hezbollah positions in southern Lebanon, those 5 million odd barrels could disappear.
I don't expect that OPEC will embargo crude in the event of an attack. But Iran, unlike Iraq, has a huge coastline, and its 4 million barrels per day of production would likely be lost immediately in the event of an attack. (Syria is a net exporter of oil, but not a terribly significant one, and purchase of Syrian oil by US refiners is sporadic and fairly small scale.) I would expect that in the event of an attack, Iran would attempt to shut as much of the Persian Gulf oil infrastructure down as possible. What success they'll have is anyone's guess. But they don't have to do much. They merely have to shut the Straits of Hormuz for a little bit and pose a regular threat to Gulf terminals and shipping. Fear, and the fact that Kuwait and the United Arab Emirates won't be able to ship any crude at all, while Saudi and Iraqi exports will be curtailed, will do the rest.
But it may not even take an attack on Iran. With the US acting increasingly like Nazi Germany in the late 1930s, making one more insane demand after another and threatening war if it doesn't get what it wants, it would not shock me if representatives from a group of "potential target nations" were already meeting secretly, noticing that "If we do not hang together, we shall surely hang separately." Iran's government has already pledged to help Syria, though these kinds of pledges are fairly regular and as an outside observer, I'm not sure I'd trust such a pledge.
On the other hand, the Iranians might indeed mean it. Meaning that a Franco-American attack on Syria and Lebanon (I fully expect Jacques Chirac to be on board this time as "another cowboy") could trigger an Iranian response.
And crude oil prices would spiral out of control. Personally, I think $80 for NYMEX light, sweet crude would be cheap.
But there's one more country to watch – Venezuela. Hugo Chavez, the one-time paratrooper and coup-plotter turned president, is a throwback to another age, when colonels seized power and proclaimed "the revolution." He reminds me, more than anything, of Panamanian strongman Omar Torrijos, another soldier turned thief, dictator and fraudulent revolutionary.
But there is one significant difference: Torrijos had to make due with a muddy, leaky ditch of a canal (and had to skim whatever he could in graft from the World Bank, Saudi Arabia and Kuwait), while Chavez runs a country that is the world's fifth largest exporter of crude oil and one of the largest suppliers of oil the United States.
Chavez has, for a long time, mused publicly about the need to diversify his country's market. See, if you are an oil producer, it helps to have as many customers as possible. As consumers of oil, we get all paranoid that somehow these evil people are going to dictate the terms of trade to us. And sometimes they can. But a consumer can just as easily dictate terms too. And if you have only one major customer, you can be at that customer's mercy.
Recently, officials from Venezuela's state oil company, Petroleos de Venezuela (PDV), met with Iranian officials to, as the press reports put it, discuss the possibility of Iran showing PDV how to market its crude in Asia. Granted, Asia is a long way from Venezuela, but Saudi Arabia is a long way from the US Gulf Coast.
However, there are reports floating around that Iran wants to start a Euro-denominated futures bourse. How likely this is, I do not know. And how successful such a thing would be if given a chance, I have no idea. Some OPEC members, especially Iran, have talked for a long time about pricing crude oil in other currencies or pegging the price of oil to a basket of currencies, but Saudi Arabia (and to a lesser extent the UAE) has always protected the dollar price, even when it means sacrificing the terms of trade. But it adds an extra dimension to any meeting PDV and the National Iranian Oil Company (NIOC) have had to discuss "marketing."
Condoleezza Rice, during her confirmation hearings for secretary of state, put Chavez on notice that he was on the list of "Countries the Bush Administration Does Not Like." Team Bush already backed one coup against the man, and would probably not hesitate to back another if it felt it could succeed.
Chavez knows this, too.
I find Chavez fascinating, and assuming he doesn't die a mysterious or gun-fire filled untimely early death, he's going to be a man to watch for the next few years. What his government would do in the event of a US attack on Iran, or an Iranian response to a US attack on Syria (which would almost certainly merit some kind of military response), is anyone's guess. He could very easily decide not to sell any more oil to the United States for the duration, depriving his country of much needed income but clearly depriving the US of its fourth most important source of imported crude.
Possibly even enough, if the storm comes together right, to get us to the magic 5.5 million barrel per day mark, triggering a release from the Strategic Petroleum Reserve.
I would expect a massive increase in gasoline prices across the US. Long lines at gas stations. Possibly even rationing. Possibly even "unrest" meriting some kind of pre-emptive "state of emergency." My advice remains as always: buy a bicycle. It could be very, very useful.
The wildcard is refiner and marketer Citgo, which PDV owns outright. If the Chavez government declares some kind of embargo, I suspect the US government would move quickly to seize Citgo. Which is why all this talk – and so far it is just talk – that Venezuela would sell Citgo is interesting. Various Venezuelan officials have said they are willing to make the economic sacrifice of selling Citgo, but others have said no such sale is planned and that the sale of PDV's most-profitable operation would not be economically wise.
But it might be politically smart. And Chavez, a gambler and a survivor, knows that.
If Venezuela moves to sell Citgo in April or May, or later this summer if the oft-rumored June attack on Iran fails to come to pass, then expect he is ready to line up with Iran and "hang together." If not, then he is hoping to survive to face the Yanquis another day.
One of the things Bush touted during his first campaign for president was his experience as an oil man, that he could talk the language of the Saudis and get them to cooperate on oil prices. (He can talk the language of the Saudis, but not when it comes to oil.) But to be perfectly honest, I don't really think the Bush administration cares all that much what oil prices are or even what retail gasoline prices are. Bush has also said, at least once while president, that the price of oil is too low.
(In this, I have to admit, Republicans are at least a little more consistent than Democrats about energy policy: drill everywhere and let prices go where they may. Democrats want the irrational, low gasoline prices but fewer people using gasoline too, an absolute impossibility.)
I don't think the Bush administration would do much if gasoline prices hit $5 per gallon. It means good money for friends and relations in the industry. It also probably means more government power – in the form of rationing and "aid" to those worst effected – as well.
I hope the red state fascists, those for whom patriotism and love of country is mostly about waving flags and foam-rubber fingers and kicking foreigner ass, understand this when they cannot fill the tanks of their pickup trucks and SUVs, when they no longer have jobs and cannot afford groceries because diesel fuel is simply too expensive. But all there will be left is government jobs, assuming governments can collect any taxes or borrow some more from the Chinese and South Koreans.
But I doubt it. They will likely go on supporting the troops and cheering "the commander in chief." Sure, they'll blame the Ay-rabs, the Eye-ranians and whatever derogatory term we'll give to the Venezuelans, and holler and hoot as the bombs fall.
The blind. Being lead by the blind. And we may all fall into the ditch together.