Oil producers will face a tough market next year even if Opec trims production by as much as a further one million barrels per day on top of present output cuts, a top commodities official at Morgan Stanley said today. A slowing economy and significant additions to global refining capacity threaten to weaken the fundamentals of the market for petrol and other oil products, said Hussein Allidina, the head of commodities research for the New York bank, which has a strong focus on commodities.
"I wouldn't be surprised if demand contracted," he said. "I don't rule out the possibility of oil trading below US$50 (Dh183.65) for a short period of time." West Texas intermediate crude for January delivery fell $1.19 to $53.25 in trading this morning. Oil prices now lie below the extraction cost of the least-profitable producers - known as the marginal production cost - which Mr Allidina estimated was more than $80 a barrel.
He said the addition of 1.5 million barrels per day of sophisticated refining capacity, mainly in India and China, next year would dampen prices for both products and crude as refiners would be able to produce a greater percentage of high-value product from every barrel. "When I look at 2009 as a whole, what really troubles me, apart from slowing GDP growth, is if you take a look at the new downstream capacity, it's much more complex than current production," he said. "All else being equal, you need less crude to meet the same demand growth."
Although weakening demand has played the most important role in oil's fall from a record above $147 a barrel in July, Mr Allidina said an exodus of investment from commodities had played a part as well. "People are running for the exits regardless of which exits," he said. It was difficult to isolate the effect speculators had on the oil price in the spring and autumn, he said. "Net speculative interest in the commodity market actually peaked in February", he said, many months before oil prices themselves peaked.
But Mr Allidina rejected the suggestion that investment banks and other non-commercial investors had caused the volatility of oil prices to increase, noting that the US Commodity Futures Trading Commission, which regulates futures markets, had concluded otherwise. "Once the credit crisis starts to abate, you will see a return of money to the space," he said. Some investors who entered the oil market late and left early might not come back to commodities, he said.
"The best participant is the one that is investing based on sound understanding, not just because the guy next door is," he said. The chief economist of the International Energy Agency, meanwhile, said that global demand for oil would rebound in 2010-2011 and prices could then exceed their peak levels of this year. "We can see almost every day that projects are being cancelled [due to the financial crisis] and this is bad news... as supply is being withdrawn, but demand will eventually rebound in 2010-2011. We may see prices going even higher than we saw this summer," Fatih Birol told a seminar in Warsaw today.
Mr Birol, whose agency advises 28 industrialised countries, reiterated that downwards pressure on oil prices would persist next year. "But there is still a lot of demand from countries such as India or China. How oil prices develop will be a function of how the economy will develop," he said. Opec is likely to weigh all options, including cutting production, when it holds an urgent meeting tomorrow.
"I am sure Opec will make the right decision that will take into consideration the fragility of the global economy," Mr Birol said when asked about the Opec meeting. * with Reuters email@example.com