Layers of speculative froth have been scooped out of the crude oil market, which is why the price of benchmark crude oil is sliding, despite the recent rise in geopolitical risks. The reason, according to Daniel Dicker, an energy market analyst, is the departure of big investment banks – particularly Morgan Stanley, Goldman Sachs and JPMorgan Chase – from global oil markets.
The shift has implications for local motorists who have been hit by a series of petrol price increases this year, and also for the economy as a whole because lower petrol prices would moderate the inflationary pressures generated by the weak rand. The price of 95 octane petrol is R14.33 a litre from R13.57 at the start of the year.
But Dicker brings some cheer.
“The world has changed,” he said on the oilprice.com website last week. “Even two years ago, with a war going on by proxy between Russia and Ukraine we’d have seen a $10 (R106) rally in the price of crude.” In addition, he pointed to “the Iraq crisis, the continuing Syrian conflict and the destabilisation in the oil-producing countries of Libya and Egypt”, which would normally send prices soaring.
Instead, the price of benchmark crude oils has fallen over the past few months. This means the global economy will no longer be held hostage to outbreaks of strife in volatile oil-producing regions.
On Friday morning, FT.com said Brent crude was trading at $102.57 a barrel. Earlier in the week, MarketWatch.com reported Brent hit a 52-week low of $101.44. This compares with the $107 average last month, $5 lower than the June average, according to the US Energy Information Administration, which projects Brent crude will average $107 over the second half of this year and $105 next year.
Dicker explained: “For the years from 2003 until just about a year ago, the oil markets were dominated by trade that was mediated by the big investment banks. Besides having their own proprietary capital in the forwards and futures markets, those banks also developed an army of participants on both sides of the trade, commercial players looking for risk management of oil but particularly speculative players, both in the form of passive investment and new commodity-based hedge funds.”
The result was that the oil price often shifted far from its fundamentals.
Dicker’s comments confirm the view held by the late Econometrix senior economist Tony Twine, who spoke often about the powerful impact of speculation in the oil market. At the start of May 2011, when Brent crude oil was selling at $127 a barrel, Twine told Business Report that the maximum price in light of supply and demand factors should have been about $85. “The geopolitical risk premium due to events in north Africa and the Middle East would be about $15. The remaining $27 was sheer speculation.”
Those days are over – at least for the moment. Dicker said: “The banks, and particularly the largest three, have abandoned the oil market, selling their proprietary interests or outright closing them down, which had an effect on the nature of the trade but more importantly abandoning the sales of futures components on a commercial and retail level.
“This has taken an enormous amount of speculative steam out of the oil trade, leaving most of the volume to private physical traders, algorithms and dedicated hedge managers. In effect, many of the new speculative interests that would flood the markets with every geopolitical change are now gone – you won’t find a massive inflow of new money when the latest dust-up in the Middle East occurs, as it did for the Iranian threats in the Gulf of Hormuz or the Libyan civil war even a few short years ago.”
The departure of the speculators coincides with dampened demand for fuel at a time when global oil supplies are healthy, partly down to the shale fracking boom in the US. Bloomberg reported last week that the US government reduced its forecasts for global demand for this year and next and said US production would reach a 43-year high next year.
South Africans, who will face many economic challenges this year, should at least see some relief at the petrol pumps – providing only that the already weak rand doesn’t head downwards again, unleashing further inflationary pressures.