The risks of $40 oil
Article Date: Dec 17 2008
Ole Hansen, Saxo Bank
Ole Hansen, futures and fixed income manager at Saxo Bank, explains why today's low oil prices may not be the godsend they appear to be.
With hindsight, oil prices above $140 were the symptom of a speculative bubble. The unwinding of those massive long positions was what kicked off the crash, but beneath $100 it was driven by the ongoing concern about how much the global economy would slow next year. Those fears have been confirmed by the recent news about Japan’s weak GDP figures.
OPEC is trying to control prices but they only produce 40 per cent of the world’s oil, and to date they have complied with only 50 to 75 per cent of the production cut they agreed to implement in October. Admittedly, prices have recently recovered slightly, but any higher than 10 per cent above the current price is going to be a struggle.
In the short-term, of course, lower oil prices provide a bright spot in a negative environment. However, we could be storing up longer-term problems. Maintaining a steady supply of oil constantly requires new fields to be opened, but projects are being cancelled due to low prices and lack of finance from banks. If you buy crude today for delivery in January the price is $44.50, but if you want it in December next year it’s $58. That’s a huge spread that reflects the fact the market is worried about supply going forward.
Clearly, the risk is opening up for a snap rebound and once demand recovers, we could be facing a supply issue.
