Diseño de Situaciones de Aprendizaje Centradas en el Aprendizaje Estratégico

Between 1859 and 1870 the price of crude oil varied considerably. Demand was growing rapidly while supply fluctuated depending on discoveries made: the arrival of substantial volumes of new oil on the market could result in a collapse in prices. Prices fluctuated between up to about $20 and several tens of cents per barrel. In the very early years exchanges were set up in which oil was freely traded.

The Rockefeller era saw greater stability in prices. Standard Oil controlled most of the refining capacity and distribution infrastructure in the United States, and sought to prevent large variations in price so as to foster demand. This was the time when the system of “posted prices” was developed. Faced with a very wide range of different crudes, the refiners, and specifically John Rockefeller’s Standard Oil, posted the price at which they were willing to purchase crude at the refinery gate.

Posted prices were introduced in other areas by the oil companies, after World War II as the price at which they were prepared to sell the crude. Posted prices were used as a reference for taxes calculation. They were abandoned in the 70’s as a result of fields nationalisation.

1.3.2.2 The inter-war period in the U.S.: the system of pro-rating

The break-up of Standard Oil, on the other hand, tended to increase competition, since the number of oil companies suddenly rose sharply. During and immediately after the war the price of crude climbed (from $1.20/bbl in 1916 to $8/bbl in 1920). However the nature of the American market was significantly modified by a large number of discoveries of oil, in California (Signal Hill oilfield), Oklahoma (Greater Seminole in 1926) and Texas (East Texas in 1931).

Piecemeal and chaotic oil extraction also contributed to a collapse in the oil price. The fact that in the U.S. landowners also own the mineral rights means that when oil is discovered on someone’s land, all his neighbours will have an incentive to also drill and produce oil themselves. This fact can result in gluts of oil on the market, and also to the inefficient exploitation of oilfields, which are rapidly depleted (Fig. 1.36).

Chapter 1Petroleum: a strategic product

The fall in prices in the early 1930s provoked social unrest and riots. The authorities were forced to intervene to control production. This meant putting a stop to anarchical oil extraction activities, which proved to be hugely wasteful, and matching production to demand. An inter-state committee was set up to distribute production quotas set by the Bureau of Mines between the various states, and to set prices. This system of “pro-rating”

was established in Texas by the famous Texas Railroad Commission.

1.3.2.3 From Achnacarry (1928) through to the post-war years

The system of pro-rating resulted in the isolation of the American market (which at that time absorbed almost half the world’s production of crude) from the rest of the world, where the majors were in cut-throat competition with each other. When prices again fell, in 1928, the main leaders of the oil industry (in particular Henry Deterding, Chairman of Royal Dutch Shell, Walter Teagle, President of Standard Oil of New Jersey and John Cadman, President of Anglo-Persian) got together in a castle in Achnacarry in Scotland. The objective, apart from shooting grouse, was to coordinate the actions of the main oil groups so as to curtail the impact of this disastrous competition.

The participants reached an agreement which advocated action to prevent surplus capacity, allocated a market share to each group in each of a number of zones and limited competition in acquiring new markets.

As far as prices outside the U.S. were concerned, the rule since the end of the nineteenth century had been: any product, whatever its origin, is sold throughout the world as if it had originated from New York. This practice was justified by the American dominance, and in particular the dominant position of the East coast. The Achnacarry agreement perpetuated this principle in a slightly modified form: since Texas had now become the centre of world

Chapter 1Petroleum: a strategic product

Figure 1.36 Cut-throat competition led to the rapid exhaustion of oilwells (From Lucky Luke comic book “À l’ombre des derricks”, © Lucky Comics, by Morris and Goscinny).

1

2

3

1. Your well is running mine dry.

2. I got here first.

3. As soon as an oilwell starts producing, other people start drilling next door to benefit from the oil field! When wells start interfering with each other’s production, litigation follows.

Chapter 1Petroleum: a strategic product production, the system was based on the “Gulf plus” pricing agreement. All oil products would be sold anywhere in the world at a price equivalent to the Gulf of Mexico FOB price, to which would be added the transport cost from the Gulf of Mexico to the country of desti-nation. After the major discoveries at the end of the 1930s, this system favoured and continued to favour Middle Eastern oil because of the low production costs applying there.

This formula was first challenged during the war. The American and British navies discovered that it increased their refuelling costs considerably. The oil companies therefore accepted that a second point of reference for pricing should be established in the Arabian Gulf. The FOB price there was aligned with the price in the Gulf of Mexico.

After the war the situation changed further. Europe was importing more and more crude from the Middle East. The European Cooperation Administration (ECA), whose job it was to manage the aid provided by the U.S. under the Marshall Plan, sought to reduce the cost of oil imports, which was absorbing a large part of the American aid. Furthermore it was in the interests of the oil companies to develop their production in the Middle East: per barrel costs were low there and could be reduced even further if the volumes produced and exported could be increased. After the war there was a growth in oil imports to the East coast of the U.S. which involved the adoption of a new system of so-called “posted” prices (1949): the FOB price of a crude was set at a level such that its price in New York would be the same as a crude from Texas.

1.3.2.4 Taxing revenues; the generalisation of posted prices

During the 1940s the idea gradually took root in Venezuela that the wealth generated by oil should be shared equally between the producing country and the oil companies (see Box 1.8).

In 1948 a 50/50 scheme was adopted: half of the profits from the production of oil would accrue to the company and half to the producing country. This principle spread to other coun-tries, particularly in the Middle East. It should be noted that if the international and partic-ularly the American companies accepted this regime relatively easily, this was because their costs were fairly limited: taxes paid to the local authorities would be deductible from the taxes paid in the United States. And if the U.S. government did not object, this was because the U.S. had become an importer and because production costs in the U.S. were very high.

An indirect consequence of the imposition of a tax on revenues was that the posted prices system spread to all large producing countries. Before then the prices of crudes at the wellhead or at ports were book prices set by different operating companies within a group.

Posted prices were, initially, real selling prices. But as production expanded, significant reductions in costs were possible. It became general practice to apply reductions, and the posted prices were periodically revised downwards.

There were other changes: royalties began to be regarded as a cost rather than as an advance on tax. This amounted to increasing the taxation of companies by one-half of the royalties. After the large price increases of 1973, producing countries replaced the posted price by the Government Official Selling Price, which was taken as the basis for the calcu-lation of the royalties and taxes, in the countries which had not fully nationalised their fields.

The rates were increased sharply. Royalties rose to 20% and more, the tax rate to 55%, and later 80 or 85%. The objective of producing countries was clear: to retain for themselves the lion’s share of the profits, leaving the oil companies a more or less stable income per barrel.

After the oil counter-shock (1986) however, the converse happened: royalty and tax rates fell to ensure that the operating companies still had a financial incentive to explore and produce.

Chapter 1Petroleum: a strategic product

Box 1.7 The legal and regulatory framework for oil production: the concession.

Mineral rights are the property of the state, except in the US where they belong to landowners. An operator who suspects there is a deposit of oil on his land must seek permission from the state, which owns the rights, to explore and if successful, produce.

There are several different types of contract (see chapter 5). The concession has long been the most common. In exchange for the payment of a sum of money known as a bonus and the acceptance of a number of obligations, the operator obtains the right to explore for a certain number of years and, if he makes a discovery, to extract the hydrocarbons.

A company holding a concession must pay a royalty to the state (the owner of the mineral rights) for each barrel produced. This royalty compensates the state for the removal of a non-renewable resource. The amount varies considerably, but is frequently of the order of 10-15% of the price of the crude. In addition, producing companies pay a tax on their profits to the state. The cost of obtaining the crude is therefore the production costs plus the royalty plus the tax. For example:

Example of cost of obtaining crude, Middle East, 1960s Posted Price: $1.80/bbl

Production cost: $0.20/bbl

Royalty (12.5% of posted price): $0.225/bbl Gross profit: $1.375/bbl

Tax (50%): $0.6875/bbl

Total cost of obtaining crude: $0.20 + 0.225 + 0.6875 = $1.1125/bbl Receipts of the state: $0.225 + 0.6875 = $0.9125/bbl

Company’s net profit: $0.6875/bbl

1.3.2.5 After the counter-shock: spot markets, futures markets

From the Second World War until the second oil shock, there were shorter and longer periods of price stability. These were the prices posted by the majors from the end of the war until 1973, or the official prices set by governments between 1973 and 1985. Before 1985, free market mechanisms, where cargoes of crude or of products were traded outside the control of the major producers played very little part.

The second oil shock transformed this situation. At the end of 1978 and for many months thereafter the prices on the free market were in excess of the official prices. This led to an understandable tendency on the part of certain producers to dispose of increasing volumes of crude on these markets. But on these free markets, the prices are also free, being fixed on a day-to-day basis, cargo by cargo. This is the “spot” market. It should be mentioned that after 1981 the reverse situation applied, with the spot prices being lower than the official prices, a situation which led to the lowering and eventually the disappearance of the official prices.

In practice, only a small number of crudes were traded very actively, thereby supporting a spot market. The prices set in a market can only be accepted by the parties concerned if there are many buyers and sellers. In most of the large exporting countries the number of sellers remains very small. This is why the spot markets concentrate particularly on several North Sea crudes (Brent in particular), on West Texas Intermediate in the U.S. and on Dubai in the Middle East.

From that time on, spot prices began to drive the physical markets. The major exporters began to fix the FOB price of their crude by reference to the spot price of Brent (for crudes

Chapter 1Petroleum: a strategic product sold in Europe), WTI (for crudes sold in the U.S.) or Dubai (for crudes sold in the Far East).

Thus, the FOB price of Arab Light sold in Europe is indexed on the price of Brent, i.e. equal to the price of Brent less a differential reflecting both the difference in quality and the difference in transport costs.

Spot markets developed relatively rapidly. Before 1973 when the producing countries took control of their petroleum resources the international companies were highly integrated and almost all trade took place within the framework of long-term contracts. Spot markets were almost non-existent. In 1973 only 1% of transactions were effected on the spot markets, but by 1980 spot transactions accounted for 20% and by the end of the 1990s the proportion was about one-third. In most contracts for the delivery of crude oil or refined products, whether short or long term, the prices are now indexed to spot prices or quotations on the futures markets.

Around 1980 forward and futures markets began to develop for some crudes and refined products (see Box 1.8) to deal with the financial risks associated with the volatility of prices resulting from the development of spot prices. The new markets had a considerable impact

Box 1.8 Futures and derivatives markets.

Futures (contracts)

Because spot prices are very volatile, the need arose for an effective means of hedging against loss due to unfavourable price movements. Various exchanges have opened up markets for futures contracts in crude oil and refined products.

These are financial markets. They do not involve exchanges of physical goods, but are standardised contracts (futures) of a financial nature. The physical exchange, takes place, if at all, when the contract expires in the future (whence the name of the contract) in month m + 1, m + 2,….., the term being stipulated in the contract. The price is determined at the time the contract is made.

In most cases operators never actually get as far as a physical exchange, but sell their contract before it matures (close their position).

Derivatives

These are a range of financial products of varying degrees of sophistication associated with other types of asset or commodity, also suited for use with crude oil and petroleum products. The most common derivatives are options and swaps.

Options

The purchase of an option gives the holder the right (but not an obligation, as in the case of a futures contract) to buy or sell a standard quantity at a given fixed price. A right to buy is referred to as a call option and the right to sell is a put option. An option is char-acterised by:

– the underlying asset: the asset which can be bought or sold;

– the exercise price: the fixed price at which the buy or sell can be effected;

– the premium (option price): the sum paid to the seller of the option;

– the maturity date: the date at which the option can be exercised.

Swaps

These are financial contracts which allow an operator to swap a variable price for a fixed price. An airline wishing to know what it will pay for kerosene can effect a swap contract with a trading company. The airline will buy the kerosene at the price applying on the day of purchase, but will receive the difference between that price and the reference price if this difference is positive, or will pay this difference if it is negative.

Chapter 1Petroleum: a strategic product

in making for a more flexible market. The relatively low transport costs and the differences in price between crudes of similar quality led traders to deal very rapidly for arbitrage⁴, because market information is available in real time on computer terminals worldwide.

Many analysts ascribe the relative stability of prices (or more precisely the speed with which prices regained their pre-war levels) at the outbreak of the Gulf war in 1990-1991 to the existence of futures markets rather than the announcement by the IEA that strategic stocks would be used. The ability to purchase oil forward has effectively made it pointless to accu-mulate stocks speculatively, a practice which is thought to have contributed to the second oil shock. But speculative behaviour on these “paper” markets can also amplify the price movements caused by uncertainties related to the weather, stock levels, etc. In general, a small mismatch between supply and demand can strongly influence price. The influence which market developments have on price volatility remains a matter of debate.

4. Arbitrage consists of exploiting differences between two markets for a given product. If, for example, the price difference is greater than the transport and transaction costs then arbitrage consists of buying the product at the lower price and selling it at the higher price.

Box 1.9 The futures markets.

Spot and future price of gas oil in London a. Spot price (in red) and future price (in blue) up to July 2008

b. Spot price (in red) and future price (in blue) from July 2008

Source: Total.

1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 0

20 40 60 80 100 120 140

$/b

1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 40

20

0 60 80

$/b

100 120 140

Chapter 1Petroleum: a strategic product