Análisis de Resultados

.1 Summary

The size, scope, and complexity of global crude trade are unique among physical commodities.

Currently more than 80 million barrels of oil are produced and consumed everyday. Beyond the scale of trade in oil, the strategic importance of oil and the crucial role that it plays in the economy make it a commodity like no other.

This chapter looks into pricing mechanisms in the oil sector, particularly into its commodity-type pricing mechanism, which has developed since the official selling price system within long-term oil contracts established by OPEC came to an end in the mid-1980s. Commodity pricing in the oil sector is well established, and spot markets for oil have developed the full range of commodity pricing instruments. Nonetheless, long-term oil contracts still play a significant role, albeit with different pricing mechanisms compared to previous periods.

The current spot markets have been developed since the early 1970s. At the beginning they were aimed at fine-tuning oil demand and supply and covered not more that 3-5% of international oil trade. In the 1980s, rising oil production from non-OPEC areas went into the spot markets. Key benchmark grades, West Texas Intermediate (WTI), Brent and Dubai / Oman, emerged, and served as the reference for crude of similar qualities and locations. Previously the role was played by Arabian Light under OPEC’s official selling price system.

Spot transactions are mainly conducted by telephone or computer network between two parties.

It is an over-the-counter (OTC) market as opposed to an exchange. Spot markets do not necessarily have trading floors. The term ‘spot market’ applies to all spot transactions concluded in an area where strong trading activities in one or more trading products take place.

The main spot markets or trading centres for crude oil are Rotterdam for Europe, Singapore for Asia and New York for the United States. Their benchmarks are: Brent, Dubai and WTI.

At the same time, futures markets have also developed in Western countries. These arose from a desire on the part of oil companies to reduce risk in light of high price volatility. Developments in information technology, developments in financial theory and a political climate favouring markets over government administrative guidance led to the creation of financial derivative markets, including futures and options. The New York Mercantile Exchange (NYMEX) and the International Petroleum Exchange (IPE) are two major financial markets for oil. World oil prices are led by these markets.

Long-term contracts are still widely used. OPEC countries in the Middle East sell their crude exclusively to refiners through long-term contracts, which usually have contract duration of one year with renewal clauses. The pricing formulas in the long-term contracts are linked to benchmark grades. There are no long-term fixed-price contracts, which existed between the two oil crises in the 1970s and prior to that time.

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Oil prices were hit hard by the Asian financial crisis in 1997 and 1998. They fell to below $10 at the end of 1998. In March 1999, OPEC countries agreed to cut production, joined by Russia, Norway and Mexico. With the Asian economies recovering from the financial crisis, prices increased during 1999.

In 2003 and 2004 oil prices rose strongly in view of the war in Iraq and the fear of terrorist attacks on oil facilities in Middle East. This was also a result of under-investment in the international oil industry.

Strong demand increases from the US and large developing countries, which were not followed by a similar expansion of supply, resulted in further increases in crude oil prices. That attracted speculators, who moved from financial and currency markets into commodity markets (oil) and contributed to the rise in prices. Crude prices reached as high as $78 per barrel in summer 2006, although they fell from this peak later in 2006.

Looking into the oil market, increases in oil consumption are closely linked to economic growth.

Where economies are growing, oil demand growth is taking place – China, India, the Middle East and the US. Global oil demand is expanding at around 1 MBD every year. 2004 saw a particularly strong increase in demand – 3.2 MBD.

On the supply side, there is an ongoing debate called ‘peak oil theory’. One school claims that oil production will soon peak and that the consequences for the world economy will be severe. Others consider that the peak oil production will still be a moving target for some time, as new reserves become recoverable due to exploration and improvements in technology (see Section 2.2). The United States Geological Survey (USGS) considers that there are enough remaining petroleum reserves to continue current production rates for another 50 to 100 years. OPEC’s 11 member countries produced 36% of the world’s production in 2005, but hold 78% of oil reserves. OPEC ministers meet every three months to discuss production levels. In 2005, non-OPEC production remained unchanged from the previous year, compared to a 1 MBD growth in 2004.

Ethanol and biodiesel are two main biofuels which are used as transportation fuel. Growth in biofuel production in 2005 and 2006 is a clear example of a supply and policy response to high oil prices.

The refining sector faces many challenges. Refineries in industrialised countries have been running at around 90% of capacity for more than a decade. Nonetheless, it is difficult to expand or upgrade refineries in the industrialised countries, due to environmental regulations and local opposition.

This results in increases in product imports and expansions in refining capacities outside of the industrialised countries. Furthermore, refineries were suffering from low margins. In addition, new, more stringent fuel specifications have come into force, and there is an increasing mismatch between product demand, which is shifting toward lighter products, and crude quality, which is becoming heavier.

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. Introduction

..1 Oil – a Commodity Like No Other

This section looks into pricing mechanisms in the oil sector, particularly into the commodity-type pricing mechanism. The oil market developed commodity pricing mechanisms in the mid-1980s, replacing the system of official selling oil prices determined by OPEC. The commodity pricing mechanism in the oil sector has evolved technically from the spot trading to the futures market and financial derivatives (see Figure 4), which are typically found in all commodity markets. This section looks into the history and mechanism of the oil market.

Oil is the most important energy source, accounting for more than a third of the world primary energy mix (see Figure 6). It is expected to continue to hold the largest share in the coming decades, although the share will decline marginally. In volume terms, oil production / consumption fell after the second oil crisis in 1979 and bottomed in 1983. Since then, however, the volume has been continuously increasing, despite variations in the price.

Figure 6:   The World Primary Energy Mix in 2005

Oil 36%

Coal 28%

Hydro 6%

Gas 23%

Nuclear 7%

Source: BP

Crude oil is a global commodity. It has been traded internationally since soon after the modern oil industry started in Pennsylvania, US, in the 1860s. Oil trading has come a long way from the stable, controlled system of the Majors, which ended in the late 1960s, through OPEC’s quota system in the 1970s and the first half of the 1980s to the market mechanism since the mid-1980s. Crude trading represents the key link between the two poles of the industry: upstream (exploration and production) and downstream (refining and marketing), and crude prices give signals to both upstream and downstream operations.

The size, scope and complexity of global crude trade are unique among physical commodities.

As of 2005, more than 80 million barrels of oil are produced and consumed everyday (see Table 2).

Beyond the scale, oil has played a significant role in world history in the 20^th century. The strategic importance of oil and the crucial role it plays in the economy make oil a commodity like no other.

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Table 2:   The World 10 Largest Oil Consumers/Producers/Importers/Exporters in 2005

Consumer MBD Producer MBD Importer MBD Exporter MBD

1 US 20.8 Saudi Arabia 10.9 US 13.0 Saudi Arabia 8.8

2 China 6.6 Russia 9.5 Japan 5.4 Russia 6.8

3 Japan 5.4 US 7.3 China 3.1 Norway 2.7

4 Russia 2.7 Iran 4.2 Germany 2.5 Iran 2.7

5 Germany 2.6 Mexico 3.8 Korea 2.2 Venezuela 2.4

6 India 2.3 China 3.6 France 1.9 UAE 2.4

7 Canada 2.3 Canada 3.1 India 1.7 Nigeria 2.4

8 Brazil 2.2 Norway 3.0 Italy 1.7 Kuwait 2.2

9 Korea 2.2 Venezuela 3.0 Spain 1.6 Iraq 1.8

10 Saudi Arabia 2.1 UAE 2.9 Taiwan 1.0 Algeria 1.7

World 83.6 World 84.4 World 50.0 World 50.0

Source: IEA, Deutsche Bank

The global crude oil market has been in a constant process of transformation. The impact of burning fossil fuels (including oil) on the environment became a serious issue in the late 1980s. The rise in terrorism and political uncertainties in the Middle East have revived supply security concerns.

Higher oil prices are encouraging the development of non-fossil fuels, such as nuclear, fuel cells and biofuels. These and other factors will affect future prices and pricing mechanisms.

.. Crude Oil and Petroleum Products

There are over 130 crude grades around the world. However, crude oil itself has almost no direct end use (one exception is direct burning of light, sweet Southeast Asian crude at power plants in Japan and China). Crude oil needs to be refined into petroleum products (gasoline (petrol), heating oil and other) to be consumed. It is the total value of the products processed from crude (called gross product worth or GPW) that determines the crude value. (This does not mean that product prices set crude prices. The two are interactive). From the refiners’ viewpoint, GPW defines the upper limit of crude price. Each stream of crude has its own property and each generates different combinations of products (see Figure 7).

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Crude oil that has a low sulphur content (less than 0.5%) is called ‘sweet’ and one with a high sulphur content (more than 1.5%) ‘sour.’ To measure crude gravity, the API (American Petroleum Institute) standard is often used. Heavy crude is under API 22°, while light crude is above API 33°. Medium grades are in between. Some crude streams contain metals. All of these factors affect crude prices.

FOB (Free on Board) is a price for crude or products at the loading port, while CIF (Cost, Insurance and Freight) is one at the destination. Buyers have to pay the additional costs of transport when buying crude or products at a FOB price, while CIF prices include costs of transportation. Furthermore, the timing of the pricing is different. FOB prices are taken on the loading date and CIF prices on the unloading date. Since tanker transportation normally takes between a few days and a few weeks, the difference is often appreciable. It is more common for crude to be traded at a FOB price and for products at a CIF price. This means that crude buyers normally hire tankers to pick up crude at the terminal of oil exporting countries and product sellers usually deliver products to buyers.

.. Benchmark Crude

In the late 1970s and 1980s, new benchmark crude grades emerged. A benchmark crude grade serves as the reference for crude of similar qualities and locations. Arabian Light, with its 5 MBD production volume, was the benchmark crude under OPEC’s official selling price system. However, in light of the development of spot and futures markets, the role of Arabian Light was taken over by West Texas Intermediate (WTI) and Brent.