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No second round of emergency oil stock releases
IEA announced today that it will not go for a second round of emergency stock release as the Bureau concludes that: “the Action served a market need by adding liquidity and bridging the gap to additional supplies from OPEC”. The IEA says it will continue to monitor the market closely, and the group of 28 members stands ready to augment the Libya Collective Action if the market conditions again warrant.
The decision to halt the emergency oil stock draw is not really a surprise since in our view the first release of 60 million barrels of oil was questionable. OPEC should have had more than enough time to increase production from the time Libya’s oil production was halted in March/April to meet the peak transport fuel demand, increasing oil import from Japan as more crude will be needed to be burned for electrical power and power shortages in China in Q3. OPEC’s failure to agree on an expansion of oil supply in early June shocked the market. Increasing tension within the cartel has raised the question about the cartels future ability to function as a swing producer. In addition, the group’s reluctance to bring down oil prices and alleviate the situation for the world’s oil importers, relations between the IEA and OPEC has been strained for some time. The IEA has been under strong pressure by large oil consuming countries like the US to dampen oil prices.
IEA’s clear sign of mistrust by announcing the first round of emergency stock release has clearly worked as Saudi Arabia has pumped an extra 700k b/d bringing total OPEC production to 30.03 mb/d. According to the IEA OPEC’s production increase and the emergency release should “substantially cover the expected 1.3 mb/d increased in the Q311 “call on OPEC crude and stock change””.
The effect of the first stock release was short lived.
The immediate effect of the announcement 23 June led to a fall in the front month contract (Brent 1-position contract the price usually referred to) by USD 9/barrel to USD 105.12/barrel from USD 114.21/barrel. For the longer dated contracts the effect was smaller, e.g. for crude with delivery 1Y ahead oil prices fell by USD 5.2/barrel and for crude with delivery 5Y ahead prices declined by less than USD 1/barrel. The sharp fall in the short term oil prices reflected the market’s view that the IEA stock release would reduce the short term pressure in the physical market in Q3 and thereby cap an expected upswing in oil prices.
The effect of the news of the first round of the emergency stocks release turned out to be short lived. After two weeks, when the market players have had some time to consider the consequences of how the IEA release may influence the oil supply/demand balance in the medium term (Q4 and 2012), we could observe an interesting move in the longer dated oil prices. The oil market started to worry about what would happen when IEA stop the release of oil and oil products to the market. A price cap in Q3 may lead to higher demand than if prices are capped in Q3. In Q4 economic activity is expected to pick up and thereby the demand for oil. Since OPEC is expected to increase production markedly to balance the market, OPEC’s spare capacity will decline. This will make the oil market more vulnerable to supply shocks like he turbulence in the MENA region. In addition, the IEA member countries will need to replenish the inventories that were released probably starting in Q4 or early 2012. This will add to the expected growth in oil demand and tighten the market further. The IEA stock release triggered an increase in longer dated oil contract prices. The total effect of the IEA emergency stock draw has made a parallel shift up in the Brent forward curve – quite the opposite of the effect at least large consumer countries hoped for.
IEA’s stock release has contributed to tighten the future oil balance outlook and pushing up longer term crude prices. For oil producing countries like Norway higher future crude prices increase future expected net cash flow from oil exports. For example in the Revised National Budget (RNB) for Norway the Ministry of Finance expected an average oil price at NOK 575/barrel for 2011 and NOK 451/barrel in 2015. The day before the release the average oil prices for 2011 and 2015 was according to the forward curve NOK 618/barrel and NOK 564/barrel respectively. The day after the release the average oil price for 2011 dropped to NOK 580/barrel and remained unchanged for 2015. Now a month after the release, the market is worried the supply/demand squeeze may be even bigger than before the average Brent crude price for 2011 is NOK 649/barrel and in 2015 NOK 599/barrel. The IEA stock draw has contributed to increase the average prices in 2011 and 2015 by NOK 31/barrel and NOK 35/barrel respectively. If we compare today’s forward prices with the prices predicted in the RNB for 2011, Brent crude prices have increase by NOK 74/barrel in 2011 and by NOK 148/barrel in 2015. If the average price for Brent remains NOK 74/barrel above the RNB forecast at the end of the year, the net cash flow from oil production will increase by around NOK 36 bn.
Not the entire lift in the short term prices can be attributed to the IEA release as the other effects such as the debt crisis in the EU and the US, risk appetite and changes in the stock levels but the increase in longer term prices may to a larger extent be explained by IEAs move.
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