Introduction to crude oil market.
The threshold of 90 million barrels a day consumed throughout the world was reached in September 2012. This represents a daily market amounting to approx 10 billion dollars (with a mean barrel price amounting to 110 $).
The International oil trade (crude, commodities (e.g. kerosene) and final products (e.g. jet fuel) is centralized on two markets located in New York, at New York Mercantile Exchange (NYMEX) where the quotation is based on West Texas Intermediate (WTI), and London at Intercontinental Exchange (ICE) where the quotation is based on Brent. There are other places such as Dubai (where the quotation is based on Arabian Light), Singapore, Chicago, Geneva, Tokyo, Hong Kong and others, but they just relay via internet these two market places.
The quotation is assured 24 hr/24 hr, all week long, except week end and days off (of the zones where it is traded). Oil is traded on spot and term markets.
The quotation includes FOB price (Free On Board) and not CIA (Costs Insurance and Freight). This means that the price does not include costs related to the delivery, (freight, insurance, various taxations and of course refining costs).
Before each transaction, the supplier supplies the purchaser with a detailed analysis of the physico-chemical characteristics of the crude or of the product. The quotation of a crude oil depends on its qualities (sulphur content, API degree, naphthene base crude, heavy crude, and so on). The proximity of the consumption places and the geopolitical stability of the country or region, in which this is extracted, affects its cost as well.
A crude oil may be called either “participation crude”, when this crude comes back to the host country, which may then retrocede it totally or partly to the concessionaire at a price called “buy back price”. Or it may be called “concession crude” when this crude comes back to the concessionaire, the price including the technical costs (royalty, production charges, taxations, and so on).
An oil cargo may be purchased and sold several times between the moment where the crude is loaded at the loading terminal and the moment where it is unloaded in the consuming country.
Influence factors of crude quotes:
Crude quotes are influenced by numerous factors: production quotas given by OPEC, strategic reserves level of the consuming countries, conflicts in producing countries or zones, economic indicators in the consuming countries, temperature, natural disasters, the marginal cost of production, piracy, technical advancements, and so on.
Quotes are more and more subject to trading of market participants. The macroeconomic market situation is predominant. OECD countries tend to stagnate at 2 % growth in an average on medium term, whilst not-OECD countries reach 8 % in an average. The high and stable growth of China and India- they represent one third of the world population – has the effect of counterbalancing the low growth, almost negative, of the countries which supported in the past the world crude oil demand.
The extraction costs due to the scarcity of oil deposits with easy access, further to one century of sustainable mining, involves in a pressure on quotes.
Brent – WTI gap:
The continuous conflicts in the Middle East carry on making a high impact on quotes. The fear of supply remains sustainable. Quotes carry on responding strongly to the pulse of this region. This explains namely the growing difference in the quote between Brent and WTI. As Europe and mainly Asia are closer geographically from the Middle East, its oil index is more sensitive than WTI located in the United States. As their qualities are almost similar, the transport costs differentiated them up to now.
The influence of financial markets on crude oil quote:
XX Century concerned a lot with production. As from 1980, securitization becomes the principal word and crude does not escape to it, its futures contracts as well as other commodities contracts get affected. At the end of the decade 2000, runaway of stock exchange transactions, precursor of the economical crisis, will affect all commodities, but also crude oil which will reach never reached summits, in spite of a normal consumption, even stagnant in 2008.
In this process, barrel quote is totally beyond physical operators. Oil companies, which did not control any longer volumes produced, are now unable to act on quote. The financial sector has just finalized barrel quote.
This quotation peak increases temporarily turnovers of all stakeholders. But we know since 1973 that this causes also negative reactions coming from the final consumer, which tempts to turn durably towards more economical solutions, such as less intensive motors, or simply towards another solution than oil. This is the reason why oil heating is less and less used compared to gas or even electricity.
These brutal variations, causing demand destruction, are then a serious disadvantage for producers. More generally, the sector of financial and real estate services represent often 30 % GDP in developed countries, while the totality of industry represents less than20 %. The weight of oil sector, which is only a fraction of this latter value, becomes marginal.
Influence of crude on the other markets:
Crude quote influences gas quote in Europe due to the contracts concluded on long term. This is different in the United States, where the gas quote mainly depends on production costs. Globally, gas quotes tend to de-index crude quotes.
Crude quote also influences secondary sectors (mainly car industry).
Oil market regulation:
Main producers are OPEC Member States.
OPEC (Organization of Petroleum Exporting Countries) is an intergovernmental organization of countries aiming at negotiating with its oil companies all that concerns oil production, its price and the future grant permits.
OPEC was created because, in the years 1950-1970, oil companies had full powers on oil quote and imposed their prices to the producing countries. That is the reason why main producing countries decided to join together to be able to interfere in oil quote. Oil production takeover was carried out by a nationalization policy.
OPEC tries to manage production and price by a coordinated effort of its Member States, i.e. settling a production quotas system. Members then constitute a producer cartel. They agree on the quantity of oil exported, affecting the market price.
As they are in possession of their own production, producing countries can this way affect the quote of oil barrel and also increase their incomes.
OPEC can also interfere in the international policy. This was demonstrated during Kippur war. OPEC embargo towards Western countries which supported Israel causes a multiplication by four of the quote during five months (from 17th October till 18th March 1974).
OPEC was settled on 14th September 1960 during Bagdad Congress, essentially by Iran Shah Mohammad Reza Pahlavi and also by Venezuela, to counter the barrel price reduction (less than 5 dollars at that time). At the beginning, only five countries were members : Saudi Arabia, Iran, Iraq, Kuwait and Venezuela.
Other producing countries joined them later:
Qatar in 1961
Libya in 1962
United Arab Emirates in 1967
Algeria in 1969
Nigeria in 1971
Ecuador in 1973 (which leaves in 1992 and comes back in 2007)
Angola in 2007
Its headquarters are in Vienna, Austria.
Crude oil exchanges being traded in dollar, oil quote is much indexed to dollar quote and vice versa.
The dollar value change as per currencies of producing countries interferes in OPEC decisions concerning the quantity to be produced. When the dollar lowers down compared to other currencies, OPEC States get reduced incomes concerning purchases carried out in other currencies, what reduces their purchasing power as they carry on selling their oil in dollars.
On the other hand, London futures markets (Ice Futures) and New York futures markets (NYMEX – CME Group) play a growing part in quote fixing ; therefore, OPEC is less powerful. Iran established a counter-power to these markets by opening in February 2008 its Oil Iranian International Stock Exchange, where oil derivatives are traded in a first time. These transactions are not made any more in dollars but in various other currencies (mainly Iranian rial).
The production weight of OPEC countries represents 30 % the world production, i.e. 32 million barrels a day in 2012. This ratio has not changed for now approx twenty years, far lower than in the years 1980. That of CIS reaches 14 % today.
Concerning the 12 Member States:
Algeria: First country having succeeded in nationalizing its hydrocarbons industry on 24 February 1971, Algeria remains an important and strategic OPEC member.
Angola: One of greatest petroleum exploration wells of the last ten years. The country presents a production growth at 2-digit. However, the structure of its oil industry is not that of OPEC members. The sector is almost quite in hands of multinational companies, and the depletion rate of its deposits is high. This lets believe that this member will be expelled as Indonesia or Gabon (because their exports were equal or lower to their imports, which makes it lose its interest in the organization).
Libya: The production of this country should increase a lot in the future years, as western sanctions release allows new investments. The country offers a good exploration potential, its place in OPEC should then increase in the future.
Nigeria: Nigeria is a restless member of the organization. Its production increases strongly thanks to deep offshore developments and the country often exceeds its quota. Several times, it required an increase of its quota, if not, it would leave OPEC. May be the reason is that the oil industry of the country is the least nationalized of OPEC. It is almost entirely in hand of multinational companies.
Saudi Arabia: The historical leader of OPEC leans on the greatest reserves of conventional crude oil in the world, its statute of biggest producer and exporter and the fact that it concentrates almost all the capacity of reserve. The country needs huge investments permanently to replace the production lost by deposit exhaustion (some 800 000 bushels apparently) each year and its production includes a growing part of oil with low to medium quality.
United Arab Emirates: Only Abu Dhabi City is really OPEC member. Emirates are a confederation created in 1972, only Abu Dhabi was already an OPEC member and the other emirates do not consider themselves bound by quotas – but their production any way is low and declines. Abu Dhabi is a great producer but all its significant deposits have been exploited for over 30 years.
Iraq: Iraq statute is outstanding since the recent conflict. The country is still OPEC member nominally but is not included any more in quotas. The country might have reserves among the largest OPEC reserves but the new system has not yet clarified its intentions.
Iran: Iran is an historical OPEC pillar and demonstrates again today its determination to use oil as a means of putting pressure against the United States. Its large deposits know a serious depletion, as the country has difficulties to produce the quantity authorized by production quotas.
Kuwait: This country has the particularity of having reserves concentrated in the major part in an unique deposit. This deposit seems to have reached the production peak and official reserves are largely disputed, even inside the country, in a context of great political changes.
Qatar: Conventional crude oil reserves of this country are relatively low and the production should decline in the next future.
Ecuador: This country came back in 2007 into OPEC after leaving in 1992. It is a small oil producer compared to other members but its reserves are relatively important (approx 5 billion bushels).
Venezuela: Under the presidency of Hugo Chavez, this country played a more active part in OPEC, contributing to give back to this organization its statute of geopolitical weapon. The country presently attempts to classify in “proved reserves” its great bitumen sand reserves. Undoubtedly, this makes part of a larger operation aiming at challenging the Saudi leadership in the organization.
Some important crude oil producing countries, some of which are net exporting countries, are not OPEC members. This is the case of Canada, Soudan, Mexico, England, Norway, United States, Russia and Oman.
OPEC member countries own 75 % proved crude oil reserves throughout the world and supply with 40 % approx world production.
The Organization of Arab Petroleum Exporting Countries (OAPEC) is an international inter-governmental organization founded on 9th January 1968 in Beirut by Kuwait, Libya and Saudi Arabia, three conservatives Arab oil States. Its headquarters are in Kuwait. Its role is to coordinate energy policies of Arab countries, aiming at promoting their economic development.
OAPEC was originally intended for being an Arab conservative political organization. The approbation of the three founder countries was necessary to allow new members to adhere to. So, countries, the governments of which were considered as radicals, such as Egypt and Algeria, were not admitted when being founded. The initial objective was to control the diplomatic weapon, i.e. crude oil, and to prevent its quote from being bound to population movements.
Iraq first refused to join Saudi Arabia, preferring to work under the aegis of Arab League, considering OAPEC as too conservative. Inversely, founder countries did not wish Iraq adhesion, considering it as too radical. However, at the beginning of 1972, one of admission criteria concerning oil was modified, considering it as an important element of the economic activity of member states rather than the main income source. So, Algeria, Iraq, Syria and Egypt were admitted. The organization became then more militant, contrarily to initially said regulations.
OAPEC is presently considered as an international organization with regional reach. It concentrates on the organization of the cooperation on the development concerning crude oil, collective projects and regional integration.
In 2006, OAPEC represented 56.4 % available crude oil resources of the planet, for a production corresponding to 29.84 % world production, i.e. 21 629 barrels a day.
Present member countries:
Saudi Arabia (1968)
United Arab Emirates (1970)
Tunisia quitted in 1986 (it entered in 1982). Some countries are potentially eligible, such as Mauritania, Yemen, Sudan and Oman.
The International Energy Agency (IEA) was settled in 1974 by OECD further to the first oil shock. IEA is an international organization designed for facilitating the coordination of energy policies of Member States. The first objective was to ensure security in energy supplies (essentially crude oil), in order to support the economic growth. It hopes to reach this objective at the XXI century, while contributing to the protection of the environment, to the input on climate changes and on markets reforms.
IEA studies in detail all energy sectors except the nuclear fission area, analyzed by International Atomic Energy Agency (IAEA).
IEA is an autonomous agency from OECD (Organization for Economic Cooperation and Development), its headquarters are in Paris and count 28 Member countries as follows:
Germany, England, Australian Austria, Belgium, Canada, South Korea, Denmark, Spain, United States, Finland, France, Greece, Hungary, Ireland, Italy, Japan, Luxemburg, New Zealand, Netherlands, Poland, Portugal, Slovak Republic, Czech Republic, Sweden, Switzerland, Turkey, Norway (this country is bound to IEA by special agreements).
ExxonMobil, PetroChina, Royal Dutch Shell, Petrobras, Chevron, Total, Sinopec, BP, Conocophillips, CNOOC are top rankings. However, not all have the same ratio of stock market capitalization. It is after all the main actors on the international scene.
Other oil companies are not publicly traded but are nonetheless key players. These are mostly state-owned companies (National Oil Company) as Saudi Aramco (Saudi Arabia), PDVSA (Venezuela) and Sonatrach (Algeria).
Nationalization of oil companies of producing countries:
Reserves and production capacity have changed sides. Following the sudden or gradual nationalization of resources, the National Oil Companies (NOC) took center stage, and ejected international companies (IOC) of the top ten places. The table below ranks the oil companies with proven reserves and production: IOC no longer appear.
Note: oil companies carry on exploring but start to diversify themselves towards new energy in parallel.