First major US hurricane since 2005 leaves oil market flat

China (Platts) -- August 25 - 29, 2008

By reporters at Platts, the energy information division of the McGraw-Hill Companies. For more information about Platts' information products in China, contact Platts at china@platts.com, or call its representative office in Guangzhou at (+86) 20 2881 6588.

It was a long weekend indeed for US oil futures traders, but not the way they expected heading into a Labor Day weekend, as the first major hurricane to threaten US oilfields in three years moved slowly and menacingly towards the coast of Louisiana.

Traders were cursing the weather as Hurricane Gustav edged past Jamaica and Cuba -- but the storm was creating more volatility for their holiday planning than oil prices.

In fact oil futures were remarkably calm as trading drew to a close on Friday, and it seems that dealers are likely to react very cautiously to news coming out on the wires about what damage Gustav actually does cause to oil and gas rigs in the Gulf of Mexico.

Even though the US Gulf of Mexico accounts for a large share of US oil production, the menace of Gustav has been calmly received. Surprisingly, NYMEX crude oil futures settled on Friday at $115.46 per barrel, up less than 1% from the week before.

Refined oil product futures barely gained value -- and European gasoil futures actually fell marginally in value last week.

The underwhelming price response shows what a different world the markets are reflecting in 2008, compared to 2005 when Hurricanes Katrina and Rita wreaked absolute havoc on global oil markets, sending prices soaring by 10% or more as they tore through the Gulf of Mexico.

One very important fact: after five years of demand-driven inflation, crude oil futures have bloated to almost double the levels they were at in 2005, when those hurricanes destroyed more than a hundred oil platforms.

Back in August 2005, when Hurricane Katrina damaged 100 pipelines, destroyed 46 platforms and damaged 20 others, crude oil futures were trading at around $60 per barrel.

A month later, when Hurricane Rita, destroyed 69 platforms and damaged 32 others, crude was still trading at around $64.

Crude futures struggled to break through the $70 barrier both times.

Fast forward to 2008. This has been the year when crude came within touching distance of $150 and sparked the fastest recession in US oil demand since Reagan was sitting in the Oval Office. Going into the fall, most oil traders and suppliers are worrying about how to handle the market if oil prices drop through a trap door at $100 and keep fading away.

The US Energy Information Administration's administrator, Guy Caruso, told rep at Platts' Energy Podium in Washington last week that he felt oil prices could fall below $100 over the next 18 months.

Almost unbelievably for the average oil consumer anywhere in the world, OPEC members are thinking about taking action that would effectively stop oil prices from falling further when they met in Vienna on September 9, Iranian oil minister Gholamhossein Nozari also said last week.

It feels like Gustav is a distraction from much bigger fundamentals that the market is still trying to cope with. But as headlines are pushed out on Monday -- when Gustav is expected to slam into the Louisiana coastline as a category three or four hurricane -- it is possible that hurricane mania will grip the markets again.

Hurricane mania looking unlikely

It is looking unlikely, though. "I think (prices) could" fall below $100 per barrel on slowing global demand and rising production in the US, Brazil and Canada, and from OPEC states such as Saudi Arabia and Angola, Caruso told reporters last week.

While he said "most of the risk is on the upside," and that it was not the official EIA prediction, a scenario of falling oil prices is "now closer to 50-50" if worldwide spare production capacity continues to increase from the current 1.5 million barrels per day, to 3 to 4 million barrels per day while global oil demand softens, he said. "That scenario is now more realistic than any time in the past five years," said Caruso.

Falling oil prices also "opens up the possibility of conflict in OPEC" as the producers' group debates whether to trim output, Caruso said.

OPEC members due to meet in Vienna next week are expected to study the impact of a supply surplus on the oil market and might take action to prevent oil prices from falling further, Iranian oil minister Nozari was quoted as saying on August 26.

Iran's student news agency ISNA quoted the minister as saying that OPEC would "study the oil supply surplus in the market and it is probable that the organization will take approaches" to prevent a fall in oil prices. Nozari said there was a "significant" oversupply on the market, which he put at 1 million barrels per day. He did not say what these "approaches" would entail nor did he call specifically for a cut in OPEC's collective production target.

The latest Platts survey of OPEC's July production showed that the 10 members bound by output restraints- Iraq, Angola and Ecuador are excluded-overshot the group target of 29.673 million barrels per day by 637,000 barrels per day, with much of the increase coming from Saudi Arabia's unilateral output increase of 750,000 barrels per day.

Nozari, whose country is the second biggest producer in OPEC after Saudi Arabia, said OPEC was studying prices and supply in order to see how best to prevent further declines in oil prices and would discuss these issues at the September meeting.

In keeping with recent history, Saudi Arabia is expected to drive any production decision "and we feel that they will be content to maintain the status quo as long as crude values hold within or above the $100-110 zone," analysts Ritterbusch and Associates said in a report last week.

"We believe the decline in the oil price during the current quarter has been driven by a combination of factors: worries about the global economic outlook, clear signals that US oil demand was plummeting, indications that Saudi production would rise sharply and a strengthening in the US dollar," energy analyst Adam Sieminski at Deutsche Bank said in a separate report.

Updated: September 1, 2008

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