Countering peak oil ERM 02


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Oil Prices have been extremely volatile during the last decade due to extensive speculative pressures on the commodity. in this episode of Energy Risk Management Series we show one of the methods of countering the same.

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Countering peak oil ERM 02

  1. Countering Peak Oil<br />Energy Risk Management Series ERM02<br />
  2. What is Peak Oil ? <br />Peak Oil means <br />Reaching peak extraction limits<br />Often during peak demand <br />Causing peak demand supply gap<br /> Resulting in peaking of prices<br />
  3. When do oil prices peak <br /> When demand supply gap jumps<br /> If supply becomes a constraint<br />If demand increases greatly<br />If prices are manipulated<br />
  4. Oil was a stable commodity for 20 yrs… <br />The producers cartel OPEC was under pressure from the OECD Governments to stabilize oil prices<br />
  5. … untill the ICE Trading cartel <br />took shape<br />The ICE Trading cartel was formed in the year 2000 by Europe’s Oil majors and global banks namely BP, Shell, Total, Morgan Stanley, Goldman Sachs, Deutsche Bank & Society General. <br />
  6. They controlled Europe’s oil trade .<br />They controlled Europe’s supply chain, as well as the virtual trading and swapping of oil contracts at ICE & NYMEX electronic trading exchanges. Unlike OPEC, they are not a limited membership official cartel and have several other traders and hedge funds as associates.<br />
  7. At the ICE future markets, oil prices became volatile. <br /> It broke the OPEC price band of $22 to $ 28 in 2000 - 2005 and has controlled oil price through its index indicator Brent Oil ever since.<br />
  8. Formed on the concept of Enron’s deregulated energy trading model, ICE added physical stocking to virtual trading.<br />The future markets at ICE Exchange thus had a unique effect on demand supply trends, as stockpiling among OECD nations rose despite drop in consumption.<br />
  9. ICE created a modern electronic trading platform for oil futures and chose Brent Oil (North Sea) as its lead index .<br />Brent Oil had incidentally reached peak oil conditions. The strategic manipulation of supplies of Brent Oil , (North Sea) which is less than 10 % world’s oil volume, but the lifeline of Europe, was done by the ICE cartel both at the supply chain level, as well as at the ICE exchange.<br />
  10. The peaking of Brent Oil <br />After peaking between the year 2000- 2005 North Sea oil went into a steady decline in production, due to higher exploration costs and lower investment in new oil fields. As per a Financial Times report new oil finds at North Sea accounted for 140 mbd in 2009 as against 600 mbd in previous years <br />
  11. Since Brent had peaked, it was easy to control it by supply chain investment<br />
  12. However there was no such scare in other major sources of Oil chiefly crude from OPEC , which scaled up production to meet demand . <br />OPEC crude accounted for 55% and Brent Oil less than 10% of the market. Still it was the online trading of Brent Oil that set the prices. <br />
  13. The strategic control of the Brent oil supply chain and betting on futures market pushed up the Brent prices.<br />Long term investors like pension funds were sold the concept that reserves of Brent oil were depleting. The future contracts of Brent Oil were both lucrative and safe from the investors point of view, due to the falling reserves and the growing energy needs of the world, and the rise of the index was the proof. <br />
  14. The success in pushing up oil prices each year brought new investors.<br />Investment in commodity index funds by institutional investors rose from $13 Billion in 2003 to $317 Billion in 2008<br />
  15. Stock piling in super tankers<br />Besides the cartel leased out numerous oil tankers on short time basis for additional storage, resulting in a record 80 million barrels of oil being stockpiled in oil tankers in ready to deliver condition at high seas. <br />
  16. The contango trades<br />This also helped the cartel to soak up surplus stocks and profit additionally from contango trades buying spot and selling long, as the spot rates were weak and the supertanker storage cost was nominal. <br />
  17. Tanker prices crash due to oil volatility<br />Oil tanker lease rates crashed to an unprecedented $ 1 per barrel per month, due to demand volatility making it easy for contango trades to profit on net –longs. In January the margin was as wide as $8 per barrel on March futures and $ 21 on Sept futures , making it extremely profitable to buy spot and hold oil in super-tankers. <br />
  18. How oil contracts move<br />Oil contracts move through the shadow of middlemen mostly based in Switzerland or other tax havens the biggest of them being the Zug based commodity traders Glencore, Trafigura Taurus Oil Transocean ( Gulf of Mexico disaster) , Masefield AG, Xstrata etc. Some of them are suspects of the Iraq and West African food for oil and embargo violation scams. <br />They buy crude from producers, sell it to refiners, buy back the refined oil and charter tankers to ship it. <br />
  19. Swapping at the London loophole<br />The Title to oil contracts , then may change hands 20 to 30 times before the ship reaches port without physical transfer of goods. The traders, the oil majors, Banks, hedge funds and the cartel members swap the commodity in high speed round trip trading at the ICE London commodity exchange, amongst themselves, driving the prices up before it reaches the retail trade. Several Bills has been spearheaded by Senator Levin ( currently heading the Goldman investigation ) in the US Senate to limit speculation but with limited effect . <br />
  20. Shorting to create volatility<br />At times the prices are pushed down to ensure volatility, and the cartel benefits on shorting as the commodity prices crash, against market expectations. In all such cases the cartel’s production curve drops instantly , in tandem with market demand, as if fore-warned<br />
  21. Volatility lesser in OPEC production<br />In comparison the OPEC Oil Production, takes as lot of time to adjust, as producers not having the inside information of how markets will behave, react much late and more moderately. <br />
  22. The London exchange has few curbs.<br />Being outside the US , there is little bar on speculative trading at the ICE exchange in London. The regulator FSA is comfortably lax and has been known to let off the cartel members like Morgan Stanley for gross violations of speculation , punishing the trader broker instead.<br />Besides Mr. Sprecher who runs the exchange is an influential CFTC member and Mr. Hatfield, a Director is a member of the currentEconomic Policy Advisory Committee. <br />
  23. Building the panic at Davos<br />The build up to panic started this year at Davos with BP Chief Tony Hayward stating that a supply challenge of 100mbd oil demand was around the corner, that would lead to a new oil peak. He was backed by both Shell and Total Chiefs and Europe’s Press gave it the widest coverage , blanking out the dissent of the largest producers of oil the Saudi Aramco who shared the dais . <br />
  24. The Saudi’s refute peak oil theory<br />Saudi Aramco Chief Khalid Al Falih had promptly refuted Group Europe’s claim, stating that the industry had adequate capacity to meet any demand surge, and a third of his capacity was idle, ready to add 4 mbd on demand . “We don't believe in peak oil”, he said, criticizing the speculation on oil scarcity, and said that it made investors shy away from investing in production . <br />
  25. The stage was set for the spike<br />The unexpected face off at Davos, was followed by a series of studies quickly taken up in the OECD by expert groups backing Group Europe’s theory of demand shortage. The IEC soon followed with its revised consumption projections of 86.6 mbd up by 1.7% from its previous estimates. The stage was thus set for the cartel members to hoard and punt. <br />
  26. But two can play the game<br /><ul><li>Risk Managing commodity prices is a real time game.
  27. It can be done by predictive analytics by matching counter moves.
  28. Since the market players and supply logistics are both known and unknown, tracking of both is needed, along with other metrics.
  29. The most crucial is your development of your counterstrategy that must be both dynamic and forceful.</li></li></ul><li>China makes the first move<br />With the the highest net - long positions in the futures market being scaled since the early eighties, China quickly reacted to the possibility of a price spike , taking advantage of being the first mover in the market place. <br />Chinese imports of oil jumped by an unprecedented 28% to 33% in January , February and March as it stockpiled hugely to avert a possible supply shortage., <br />It was both dynamic and forceful throwing estimates and forecasts of Wall street analysts out of the window.<br />
  30. China’s bold energy strategy.<br />This was in line with China’s well known policy of investing aggressively in oil. Last few years China has even invested in several smaller oil fields globally to ensure its energy security. It was also reported that China struck a separate deal with the Saudi’s, who assured increase in production to meet stable supply conditions in Asia, ensuring China’s high growth without impediment.<br />
  31. US joins the stockpile game<br /><ul><li>In Cushing Oklahoma, where WTI is delivered into America's pipeline system, there was a perceptible stock build up in March.
  32. This was due to US Energy Department’s decision to raise stock by an additional 2 million tons creating record stockpiles of 356.2 MT, a 7% rise in US inventory over the five year average stocks</li></li></ul><li>The advantage of stockpiling<br />By aggressive stockpiling , China was able to achieve the duel objective of buying before price peaks, and setting a higher demand projection in IEA’s annual forecast, according to which producers all over the world would plan both their extraction as well as refinery capacities. <br />
  33. How Brent oil moved <br />
  34. Creating price inversions<br />One of the proven way to reduce volatility used by large consumers is to stockpile before peak season. This helps it ease its demand and buy spot during price troughs further releasing pressure on demands. In an inverted market, current prices are higher than future prices and thus the price of storage is negative.<br />This creates losses for the investors and speculators alike, but brings back control to the real consumers and producers.<br />The effect of Chinese and US stockpiling caused price inversions and caught the Big Bank analysts at Wall Street wrong footed. <br />
  35. Risk managing oil futures<br />
  36. Managing Risk through negotiations<br />China’s positive cash flow and large demand pattern has helped it buy spot to create price inversions in the market. <br />If China ties up with other buyers and the large OPEC producers it can stabilize the price of oil at below $70. This will still generate profits of $15 to $20 billion for large producers like Saudi Arabia but will hurt the speculators and bring stability back to oil. <br />
  37. China’s growing energy needs is key<br />Apart from China’s positive cash flow and large demand pattern , it’s growing energy needs is the key to the current crisis. While speculators want to cash in on the demand surge, it is aggressively tying up new sources, and the OPEC cartel will want to enlist it as a stable and growth oriented customer. <br />
  38. Managing Risk through joint ventures<br />China signed a $ 20 billion oil for cash deal with Venezuela’s state owned oil producer to form a joint venture to extract crude oil from the Orinoco Belt block. This was an extension of the ongoing $8 billion cash for oil program devised by it<br />
  39. Managing Risk through financing<br />Last year China Development Bank signed a $ 15 billion financing deal with Russian state oil firm Rosneft, and $10bn to pipeline firm Transneft to develop a Siberian oil field and transport oil through pipes to North China. <br />
  40. Managing Risk through partnering<br />Last year China Development Bank and the state owned oil company Sinopec tied up with Brazil’s Petrobras in a unique $ 10 billion deal that will cover developing Brazilian oil deposits, trade, engineering equipment and materials, that demonstrated the flexibility that China devices for meeting its energy needs. <br />
  41. Stabilizing oil price <br />China’s positive cash flow and large demand pattern has helped it buy spot to create price inversions in the market. <br />If China ties up with other buyers and strikes a deal with large OPEC producers it can stabilize the price of oil at below $70. This will still generate profits of $15 to $20 billion for large producers like Saudi Arabia but will hurt the speculators and reduce volatility of the markets . The Supply chain challenges and moves to overcome speculative pressures independently shall be discussed subsequently. <br />
  42. References and Sources <br />Ecology to EconomicsAmazon Kindle Blog : Ecothrust<br /> or<br />Article in Economic Times of 26th April<br />Oil: A tale of 2 cartels<br />Technorati (RSS Feed)<br /><br />Sources : Bloomberg, Business Week, The Economic times, OPEC, The Oildrum , Telegraph U.K., Wikipedia, The Guardian, Financial Times, Daily Bahrain and U.S. Senate Proceedings. <br />FOR ANY QUERIES MAIL TO <br />
  43. Other Presentations by us<br />Climate Change Positive Solutions Series CE-01<br /><br /><br />Climate Change Positive Solutions Series CE-01<br /><br />Climate Change Positive Solutions Series CE-82<br /><br />
  44. Other presentations by us<br />Business Risk management Series<br /><br />Business Risk Case Studies Ba31<br />
  45. Other Presentations by Us<br /> Business Risk Case Studies Ba32<br /><br />Business Risk Case Study – Ba 33<br /><br />What is Carbon – ERM-01 <br /><br />
  46. COP 15 Failure Analysis<br />PART 1 DISTRUST<br />PART 2 EQUITY<br />PART 3a TRANSPARENCY Base model<br />PART 3b TRANSPARENCY assessment<br /><br />