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Why crude oil could bounce back

Vinod K Sharma
 
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May 24, 2008

Crude hit an all-time high of $135 a barrel this week and then slid on profit-taking. But it may not be its last hoorah. A reading of the commodity's dynamics reveals that more trouble may be in store. I list five reasons why I believe crude could surprise us with more upside flourishes going forward.

Outside Saudi Arabia, there is no spare capacity. Sanctions on Iran have meant that no new outside funds have come to bolster the current production of around 4 million barrels a day.

Iraqi oil wells, despite US efforts, have not been able to reach production levels of the pre-war era. England and Norway are seeing a winding down of their North Sea production and Venezuela does not have the political will or the technical expertise to increase production.

Even Russia, which increased production by 4 million bpd from 1996 to 2007 can't produce more. Over the past many years, Russia has accounted for almost 80 per cent of the growth in oil production outside the OPEC. Its production, which peaked at 9.9 million bpd, is gradually dipping.

President Bush could not prevail upon the Saudis to increase production by just 1 million bpd. US senators are angry at the royal rebuff and may initiate sanctions on non-compliant OPEC nations which may further alienate the US.

On a year-on-year basis, oil majors have seen a reduction in their production numbers. BP's production fell 2 per cent, Shell's fell 6 per cent and ExxonMobil's a full 10 per cent. Overall production will fall 2 per cent this year from last year.

Rising violence in Nigeria and state nationalism in Venezuela and Russia are giving the jitters to global oil majors and raising concerns over the continued supply of whatever the world can produce. Besides, the increased closeness of Iran, Venezuela and China does not augur well for the rest of the world.

Last fortnight, the polar bear was declared an endangered species in the US. You might wonder how this could raise crude prices? When a species is declared endangered, it usually gets an earmarked "critical habitat". That usually means no human activity in that region.

The last of the biggest oil discoveries in the US was in Alaska's Prudhoe Bay, home to the polar bear. Once a critical habitat is declared, all exploration and drilling activities could stop, hurting new prospects of discovery and hampering current production. The Arctic is seen as rich in hydrocarbons and Russia has even put an underground flag on the sea bed under the fast thinning ice cover at the North Pole.

The Paris-based International Energy Agency (IEA) is conducting an audit of the world's top 400 oil fields. Though its findings will not be released before November this year, the inference is a foregone one.

For several years, the IEA has predicted that supplies of crude will keep pace with rising demand, topping 116 million bpd by 2030, up from the around 87 million bpd currently. Now the agency is worried that ageing oil fields and reduced investment mean that companies could struggle to surpass even 100 million bpd over the next two decades.

Researches at Colorado State University have forecast a busy hurricane season this year. On April 9, they increased their count of expected storms to 15 from the 13 that they had forecast in early December 2007.

Accordingly, they have also increased the number of expected hurricanes to eight from seven and intense hurricanes to four from three. An active hurricane season would mean higher probability of harm to the off-shore rigs and platforms in the Gulf of Mexico, which could further fuel crude prices.

Incidentally, India and China have led the increase in demand for crude. It is not a coincidence that both countries have over the years protected their consumers from the scalding commodity. If consumers don't have to pay extra, don't expect them to reduce their consumption for the sake of the rest of the world.


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