Oil prices sink to one-year low, casting doubt on return to triple-digits

China (Platts) -- October 6 - 10, 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.

Global energy prices continued to tumble last week, with benchmark WTI crude oil prices crashing through a floor set one year ago.

Prices closed last Friday (October 10, 2008) at $77.70/barrel, well below the $81.32/b level posted at the same time last year.

Although last week's closing price represents a 47% drop from the all-time high of $145.31/b set on July 3 this year, it is still no where near the all-time low of $10.77/b that was established a decade ago on November 25, 1998 when the bullish mega cycle began.

However, the new levels have called into question earlier predictions by many analysts that prices would gravitate back to the $100/b level in the medium term.

Oil prices sunk as continuing declines and massive volatility in the global equity markets and a strong US dollar triggered a broad-based selloff throughout the energy sector.

The Dow Jones Industrial Average hit a new five-year low, falling nearly 700 points to 7,882.5 within 20 minutes of the opening bell at the New York Stock Exchange.

At the time of NYMEX close, the Dow Jones was down 414.7 points at 8,154.

The US Dollar Index on ICE was up 18.09 points at 82.97 at the time of the NYMEX close. It traded at an intra-day high of 83.19, the highest its been since June 15, 2007.

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"As long as the stock markets continue to be interpreted as an indicator of future oil demand weakness, the connection between oil and equities should remain intact regardless of currency swings or oil specific headlines such as OPEC intentions, weekly oil statistics, etc.," oil analyst Jim Ritterbusch said in a report.

"Although the equity markets have been adopted by the energy complex recently as a proxy for future oil demand, this connection is quite lose in the real world and a decoupling should not be ruled out as this month proceeds," Ritterbusch added. "A better short-term indicator, in our view, is the crack spreads that turned down again in today's trade."

The November NYMEX heating oil crack spread fell last week, dropping to $15.309/barrel on October 10, from $17.92/b on October 3.

That's down from a year-todate high of $39.73/b in late May.

The recent declines have defied many recent predictions of a reversion to $100-a-barrel crude in the medium term.

Indeed, prices could face a sustained "bust" with prices eventually dropping to $50/b, analyst Phil Flynn warned October 10.

"Obviously, we're in a period of readjustment," said Flynn, a vice president and senior market analyst at Alaron Trading. "The oil pendulum has swung."

Flynn said crude oil prices could be in a "deflationary cycle" for the next five to 10 years. "To say this (a price tumble) could never happen would be denying the history of oil," he said.

He anticipates crude oil prices falling to a $50-67 range by year's end and into 2009, with a broad commodity "bust" cycle lasting for five to 10 years.

Flynn said he expected to see continued builds in product supplies "for the next year" throughout global markets.

Flynn also voiced doubt that the roaring "BRIC" economies of Brazil, Russia, India and China would prove sustainable in the medium term or that they are "bubble proof."

On the NYMEX, non-commercial participants, whose collective trading volume is regarded as a measure of speculative activity, sold 36,403 contracts of crude futures on NYMEX in the week ending October 7, according to the latest data released by the US Commodity Futures Trading Commission.

Non-commercials were net long 3,690 crude futures contracts, reducing their net length as November crude prices suffered losses.

Between September 23 and October 7, non-commercials have reduced their net length to 3,690 contracts from 41,728 contracts, as front-month NYMEX crude fell to $90.06/barrel from $106.89/b.

Meanwhile, commercial participants - comprised of oil companies, refiners, banks and endusers - were buyers of crude during the sell-off, turning their net short position into a net long position.

Falling prices prompt downward adjustment in demand estimates

Also on Friday, the International Energy Agency announced that it has slashed its estimates of world oil demand for the second half of 2008 and the full year of 2009 as a result of the global financial crisis, warning that the turmoil was also affecting oil market liquidity and upstream investment.

The agency now expects demand in the developed countries of the OECD to fall by more than 1 million b/d this year, although so far growth is holding up better in the developing world.

"The largest OECD economies will likely face a severe economic slowdown or even a recession," the IEA said in its latest monthly oil market report.

Although non-OECD growth is also likely to slow, the IEA said there was so far no clear sign that demand in China was slowing down.

The IEA cut its estimate for global oil demand in 2008 to 86.51 million b/d, down 240,000 b/d from its previous report, and reduced its estimate for 2009 by 440,000 b/d to 87.21 million b/d.

This leaves expected year-on-year growth in oil demand of 440,000 b/d for 2008, the smallest increase for years and 250,000 b/d less than previously predicted.

Growth next year has now been cut to 690,000 b/d, down 190,000 b/d from the previous report.

Demand from the OECD countries is now expected to fall from 49.18 million b/d in 2007 to 48.09 million b/d in 2008, and then slip again to 47.49 million b/d in 2009. OECD demand fell in 2006 and 2007.

The OECD weakness is particularly concentrated in the US, the world's biggest consumer, where demand is now expected to fall by around 4.6% this year to an average of 19.7 million b/d.

Oil demand growth outside the OECD has so far been less affected by the recent turmoil in financial markets, but is not likely to remain completely unscathed, the IEA said.

Regarding China, the IEA noted, "even if global economic growth slows down - but short, of course, of global recession - China's oil demand growth can arguably remain in positive territory in the foreseeable future."

The credit crisis is already affecting liquidity in oil markets and investment in new upstream oil production capacity, and could lead to increased oil price volatility, the IEA predicted.

"Credit shortages are rapidly becoming yet another in a long line of impediments to industry investment... expanding production capacity, even in line with moderating demand growth, becomes more difficult," the IEA said. "A cash liquidity crisis also affects storage, refining and trading activity. Oil market liquidity itself is already suffering, so underlying price volatility could persist, or even increase, in the months to come."

The IEA cut its estimate of non-OPEC oil supply in 2009 by 200,000 b/d, citing project delays and slow increases in supply from new fields, as well as initial signs of the negative impact of the credit crunch.

The IEA now expects non-OPEC supply to average 50.4 million b/d in 2009, up from an estimated 49.8 million b/d in 2008.

The 2008 estimate has been reduced by 100,000 b/d, notably because of hurricane-related outages in the Gulf of Mexico and production problems at the BP-operated ACG field complex offshore Azerbaijan.

Total world oil production fell to 85.56 million b/d in September, down from 86.65 million b/d in August and 87.88 million b/d in July, the IEA said.

The fall stemmed from hurricane outages in the Gulf of Mexico, renewed stoppages in Azerbaijan and lower OPEC production.

Commercial oil stocks in OECD countries fell by 5.1 million barrels in August to end the month at 2.645 billion barrels, the IEA said.

Updated: October 13, 2008

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