ENERGY: ANXIETY ON THE RISE
by Joe Duarte, MD
Joe-Duarte.com & IntelligentForecasts.com
January 27, 2007

Rising Angst From Too Many Uncontrollable Variables

Big money players are starting to fret about the price of oil. The rumor mill in Davos, according to some sources in the trading pits and elsewhere is full of concern about what could happen to oil prices when the next geopolitical shoe drops.

Aside from a late arriving, but fierce winter, the energy markets face an increasing amount of geopolitical uncertainty. With the war in Iraq moving toward a crescendo, other global hot spots, especially Nigeria and Venezuela, offer investors both reasons to fret, and the opportunity to capitalize on any potential crises.

According to The Wall Street Journal, based on events at the World Economic Forum In Davos, Switzerland, the worry among the world's elite, politicians, and celebrities is that "the geopolitical and economic equilibrium that long enabled the oil industry to smoothly supply customers is a thing of the past."

Aside from wondering where the Journal and the big money crowd at Davos has been since 9/11, it is important to note that the situation has now reached the point where it might actually be starting to worry people who usually don't have to worry about a whole lot of anything.

The big money crowd is suddenly concerned that producers have the upper hand. Wow! Imagine that. Venezuela is nationalizing its oil industry, openly, while Russia has been doing it through a thinly disguised back door for several years, and has held Europe and its former republics hostage with natural gas pipeline closings for two Januaries in a row.

According to wire services and other sources, kidnappings in Nigeria are now a daily occurrence. And the U.S. is building an armada in the Mediterranean while increasing its naval presence in the Persian Gulf, as it puts pressure on Iran, in hopes of deterring Tehran's influence in Iraq.

Furthermore, the Journal, breathlessly reports: "Insurgents are sabotaging (Iraq's) vast petroleum industry and driving skilled technocrats into exile, threatening to cripple the industry for decades to come. Some experts worry that Iran and Saudi Arabia may be drawn into a proxy war in Iraq. That raises the specter of an energy-doomsday scenario: a conflict among the world's top three oil-reserve holders."

Indeed, Stratfor.com recently reported that the Saudis and the Iranians are holding talks, with some predicting that the Saudis are acting as intermediaries between Tehran and Washington.

Perhaps the best data from the Journal is its analysis and summary on the demand side of the global oil equation, as summarized in the chart titled Growing Thirsts.

The U.S. consumes 20 barrels of oil per day, much of it from 21 foreign sources, with nearly a third, some 7.6 million barrels coming from Canada, Mexico, Saudi Arabia, Venezuela, and Nigeria. At least five million barrels per day come from places that are currently either politically unstable, or are openly unfriendly to the U.S. Iraq, Venezuela, and Nigeria account for 3.1 million barrels per day. If you add Russia, the figure then climbs to 3.5 million barrels per day.

More important is the fact that if you project potential conflicts to include countries such as Chad, Colombia, Algeria, and Lybia, you could shave another 2 million barrels or so off of the daily total. If something was to happen in Mexico, the U.S. Would lose some 1.5 million barrels per day.

It doesn't take a genius to figure out that at any time, anywhere from 20 to 30% of the U.S. oil supply is in danger of some kind of geopolitical event, without including more mundane things, such as hurricanes, earthquakes, and mechanical events.

Finally, the Journal notes that developing countries are increasing their demand for oil, as developed countries are not decreasing their demand, setting up a situation where demand is on the rise, and supply is stalling by many accounts, due either to mechanical, political, or just plain old depletion.

Conclusion

The financial markets are focusing on weekly supply data in the U.S. as its benchmark for pricing oil. In the short term, this is an excellent trading tool. But in the long term, the logic fails to hold up.

If oil prices were to remain eternally low, as the market seems to be saying, then why would Goldman Sachs be in the business of storing oil in the New York harbor? And why would Goldman and Morgan Stanley be increasing their exposure to power generation.

If oil prices were going to be stable, then why would oil service companies be touting their continuing positive outlook?

There is a great disconnect between the price of oil and the long term supply and demand outlook.

What grabbed our attention is not so much that The Wall Street Journal finally got the situation, but that the rich guys that go to Davos every year are starting to fret.

In other words, the markets may be setting up for another round of higher prices, which could be triggered by the next geopolitical event. Pick your spot: Nigeria, Iran, Russia, Venezuela. The choices are increasing on a daily basis.

© 2007 Joe Duarte, M.D.
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