Either the Saudis step in or oil prices are going to the moon (and other predictions)

Just yesterday I was listening to the chief economist at the Centre for Global Energy Studies explain calmly why the oil price was unlikely to hit $150 a barrel. Today, it has taken a huge jump in that direction, peaking at more than $119.

Analysts are scrambling to update their forecasts. Here are some of their more important/interesting thoughts:

Saudi Arabia is key

Petromatrix says that if the Saudis don’t step in and replace what is being lost from Libyan supplies, then the only thing to make up the shortfall will be a price spike that effectively kills demand. As in 2008, this could be catastrophic for the global economy:

There are only two ways to answer any continuous supply shortfall from Libya: more supply from countries that have some spare capacity (Saudi Arabia but with some quality issue) or lower demand. Saudi Arabia had said that they would increase production when a supply disruption starts to develop. The supply disruption is occurring, Saudi Arabia is for now staying silent hence the market has to price the second solver which is lower demand, and lower demand comes through price demand destruction.

The price surge of 2008 was quite effective for demand destruction but the process can be quite harmful and long lasting. Forecasts for oil to reach 200 $/bbl are starting to surface and if oil can go ballistic on any further fire in the Middle East, the aftermath will be probably be dramatic for the world economy.

This report hit before the Saudis ended their silence: let’s see if it has the desired effect.

The full effect is yet to hit WTI

Even though the WTI-Brent spread has narrowed in recent days, BNP Paribas argues that the former has still not priced in all the Middle Eastern volatility, and has further to rise:

Brent’s greater sensitivity to developments in Libya stems from the pricing relation of Libya’s crudes with the North Sea marker, but also the comparable light-sweet quality of the country’s largest crude stream and benchmark grade, Es Sider.

Thus Brent was quicker to embed a risk premium than WTI. As such, if the market were to move further higher, there would potentially be more upside to WTI, and the spread between the two markers is likely to get compressed.

Bahrain is more important than Libya

What is really worrying the Saudi regime (and what must be behind the massive financial injection announced by the king yesterday) is the fact that the situation in Bahrain bears striking similarities with that in the oil-rich east of Saudi Arabia. A minority Sunni population rules over a disgruntled Shiite majority, and the Saudi Shia may well be encouraged to rebel by events over the border. This is BarCap’s take:

Although Bahrain is more socially liberal and more open politically than its Gulf neighbours, it has deep sectarian divisions. The country’s Shiite majority has long complained of systematic discrimination in employment, education and housing by the country’s Sunni monarchy.

The Saudi leadership is particularly anxious given its border with Bahrain and the fact that its local Shiite community, while comprising less than 15 per cent of the total Saudi population, constitutes a majority in the oil-rich eastern region.

Libyan optimism

There are two reasons for optimism as far as Libyan oil supplies are concerned, however. The first is that any new regime will need to restore supplies and the revenues that flow from them as soon as possible to keep the population onside. This is from BarCap again:

The revenue imperative for a new regime will likely be quite high and hence may dampen any enthusiasm for radically altering the existing energy contracts, especially since international economic sanctions were only recently lifted.

Although:

That said, if there is a political vacuum after Gaddafi’s departure and continuing violence, the companies may remain on the sidelines.

The other bright spot is that Libya’s oil is being developed by a lot of different companies from a lot of different countries, giving many governments and corporates a stake in making sure they can get the oil flowing again. A “Who’s Who” of Libyan oil by Richard Krijgsman of Evaluate Energy has found:

Libya may not be as strategically important to its trading partners as many other Arab oil and gas producers, but it is definitely now well connected to many countries and companies worldwide, which makes the current disruptions a truly international, not local, issue.

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