If you think global energy price movements are tricky to predict, says Michael Wilson, Editor-in-Chief at IFA Magazine, just wait till you’ve seen all the unknowables in the price

The only thing you really need to know about oil is that you’ll never really know what’s going on. You can market-time your economic cycles and your economic projections and your emerging market crises to your heart’s content, but if you can second-guess what the oil and gas sector is going to do, then you deserve all the riches that life can bestow on you, and the Mystic Meg achievement awards that go with it as well. I certainly can’t.

People have been losing money they can’t afford to lose on oil for as long as we’ve been squirting this lovely commodity out of the ground. And global expert forums such as the International Energy Agency (IEA) have been making fools of themselves for almost as long. Why can’t we seem to get a grip on this most essential of sectors? I thought it might be interesting to consider some of the variables.

The obvious thing to say, of course, is that the production and supply of oil is vulnerable to every kind of disruption – political issues, wars, labour-market issues, natural disasters, extraction costs, even peer pressure from other producers. But increasingly, there’s been a sea change in the way that crude oil and gas is distributed globally. Not to mention in the way that it’s used. Alternative technologies, new trade relationships, and much, much more besides.

A changing global scenario

This year, for instance, we’re looking at the May presidential election in Iran, where a vaguely pro-Western cleric is being challenged by hard-liners who say that Iran should press ahead with the nuclear weapons strategy, and never mind if America shuts its oil exports down. (By the way, did I mention that Iran has the second largest oil deposits in OPEC? Yes, it matters quite a lot who gets in.)

We’ve got Venezuela, one of the largest oil producers in the Americas, And then we’ve got the autumn congress of the Chinese Communist Party, which will decide how much emphasis China will be placing on energy imports over the next five years. (Hint: China has lots of its own oil underground, but it’s waxy and impure, and it’s better for making plastic garden chairs than powering a technological revolution.)

But somewhere along the way, we’ve got the possibility (probability?) that the Trump gambit in North America will run out of steam as the eponymous deal-maker in the White House fails to get his low-taxation growth budget past an increasingly stubborn Congress – and that some of the fire that’s been driving the US equity markets along in recent months will stutter and gutter, as the prospect of easy autumn tax cuts becomes more distant.

Then again, who are we to talk about secure economic prospects? I’m not talking about Theresa May’s forthcoming battles as much as the European Union’s. Six months from now, we may all find ourselves with a sharply slower growth rate which won’t take any comfort from a strengthening dollar. Which, of course, is the currency in which oil is traditionally denominated. A meltdown in Italy’s overburdened banking sector, a populist/rightist swing in Germany or France, and the gloves may be off for the euro.

Only three weeks from lights out?

But the real kicker is that the oil industry doesn’t do extensive supply lines. A tonne of crude oil isn’t as valuable as you might suppose, and it costs an absolute fortune to keep it in a tank above ground, and that’s why the industry prefers to keep it underground – or, to put it another way, it doesn’t let it out of the well until just before it’s needed.

Nobody is exactly sure how much of the world’s oil is stored above ground at any one time, but the IEA’s current estimate (December 2016) is around 5.7 billion barrels for the 35-member OECD group. Of which around 3 billion is sitting in strategic government stockpiles (about 700 million in the United States), another 1.6 billion is in commercial stockpiles, and about 1.1 billion is floating around the world’s oceans in supertankers.

Now, bear in mind that the OECD doesn’t include China or any of the Middle Eastern states, and you’ll appreciate how hard it is to get a handle on the oil flow problem.

The important figure, though, is that 5.7 billion barrels of oil is equivalent to 5.9% of the 96 billion that the world consumed in 2016. Or, to put it differently, about three weeks’ demand. And that isn’t as much as you might suppose.

So who’d be most vulnerable if the supply lines were cut? Probably not the United States, which maintains an estimated 150 days’ worth of consumption in its strategic reserve at any one time – up from just 60 days in 2008! Plus, presumably, an awful lot of shale oil that could be hauled to the surface any time that the price was high enough to make it worthwhile.

In theory, all EU member states are supposed to have 90 days’ worth of emergency rations, but both Germany and France have less than 70 days’ stocks. And poor India has just 15 days. China has an estimated 520 million barrels of official capacity, or around 35 days’ worth, but that’s excluding a billion or so of private and commercial storage. Or, in other words, China may have the thick end of 100 days’ storage. Then again, it may not.

Why am I going on about the oil storage situation? Mainly to show how very vulnerable the world could become to a short-term supply cut. And why the oil price is so very, very vulnerable to short-term speculative price swings.

Good news?

Ah, say the optimists, but you’re forgetting something. The bad old days of contango – loosely, the situation you get when forward prices are higher than spot prices – has largely been consigned to history by the sheer volume of easy oil that’s nowadays available at short notice, thanks to a burgeoning billion-barrel fleet of container ships.

And the upshot, the optimists say, is that a lot of the forward-guessing about supply routes and availability is no longer such a major factor. So welcome to the brave new era of price stability. Hip hooray, we shall never again see the International Energy Agency forecasting $200 oil by Christmas when the actual outturn is more like $48. (That was 2008, in case you’ve forgotten it. The OECD hasn’t, for a start.)

But not so fast. One thing we haven’t told you yet is that most of these seagoing tankers are based around the Indian Ocean coast, from the Gulf to Singapore and then up along the Chinese coast toward Japan. And that shipping movements in this region are exceptionally poorly reported, so that figuring out where the hold-ups are is very hard. And that south and east Asia is an awfully long way from either northern Europe or America.

And then there’s the fact that the global stockpiles that help to stabilise prices are about to shrink. The current estimate of 5.7 billion barrels for the OECD is almost a billion more than it was in 2012, which has a lot to do with why oil prices are stuck around $50 at the moment. But what would happen if those government stockpiles were reduced?

Exponential pressure

Well, brace yourself. This year’s big news from the States is that the Trump Administration is planning to sell off as much as 60 million barrels of its national strategic reserves during the next three years – partly because it feels that having shale oil reduces the need for safety, and partly also because the strategic reserve tanks are getting rather grotty and need a lot of upkeep.  Oh, and because a quick billion dollars would help the government to balance the budget, of course.

But what, you ask, is a puny billion dollars in terms of a price mover in a global market that’s worth maybe $2 trillion a year? I suspect that we’ve answered that question already. The tight margins, the hyper-slim stock buffers and the permanent political uncertainty are enough to add an exponential pressure on

Feeling peaky?

While researching this article, I was not a little concerned to find The Guardian reporting on the coming end of the global fossil fuel market, especially from such a worthy commentator as Colin Campbell, a former chief geologist for Amoco and a vice-president of Fina who had co-founded the London-based Oil Depletion Analysis Centre. And that he was claiming that “about 944 billion barrels of oil has so far been extracted, some 764 billion remains extractable in known fields, or reserves, and a further 142 billion of reserves are classed as ‘yet-to-find’, meaning what oil is expected to be discovered.” Or, in other words, “the overall oil peak arrives next year.” Just kiss your lifestyle goodbye….

I was, however, equally cheered to discover that the Grauniad’s quote was from faraway 2005, before the global banking crisis kaiboshed industry’s appetite for fuel; before America’s shale oil business had properly got under way; before lithium ion batteries became widespread; and before electric motor vehicles started to look like a serious proposition for the future.

And, perhaps more to the point, before rising oil prices (which topped $140 in 2008) were themselves kaiboshed back to $30 and below by economic recession, better distribution systems, and – let us not forget it – before the oil companies had some second thoughts about getting more oil out of all those ‘uneconomic’ wells using brand new extraction techniques.

Meanwhile, it would have astonished Campbell to know that the United States has now reduced its oil demand for 13 straight years. And that OECD forecasts from 2014 showed the 35-member bloc’s demand dropping to just 38 million barrels per day by 2030, compared with the 55 million that it had been expecting in 2006. A 30% annual drop in projected consumption is no small matter, even if China has been spoiling the party with a soaring increase of its own. Globally, the peak oil idea is like one of those distant hilltops that gets ever further away, the closer you get to it.

Questions for the future

And with good reason. As we approach the halfway mark in 2017, Trump’s America seems hell-bent on questioning every assumption we make about the hydrocarbons market. Will he press ahead with the planned Alaska pipelines? (Probably.) Will he reopen the coal mines.(I’ll believe it when I see it.) Will America’s hugely loss-making shale oil wells turn a profit before their impressively expanding overdrafts force them into the arms of a government that would be glad to have them?

And what of other countries? Even the most timorous estimates for the long-term cost of all this upkeep are in the region of $8-10 trillion, which would be easily five years’ worth of global revenues. That’s a lot of investment, and the companies that will need to find it will have to weigh it up carefully against the competing attractions of other fuel forms in order to work out how, and whether, it’ll allow them to turn a profit.

That’s an absurd argument, say the oil bulls. The stone age didn’t end because we ran out of stones – rather, it modernised as new inventions change our world, and we adapted it to fit in with competing technologies, and stone hasn’t priced itself out of existence yet. The fact that the market electric cars will be worth nearly $1 trillion by 2027 doesn’t really alter the fact that diesel and petrol engines are a fabulously resilient and versatile market that won’t simply disappear.

And finally, let’s not forget that the global oil industry is bigger than all the world’s metal extraction businesses combined. (Gold, for instance, was worth $170 billion a year, copper $90 billion and iron $115 billion in 2015 against oil’s $1.72 trillion.) We can’t rule peak oil out, but nor should we expect it to do much more than flatten off what seems likely to be a medium-term rise in prices.

Unless, of course, we get a short-term recovery instead? We’ve mentioned four potential triggers already for this year – Iran, France/Italy, China and of course Trump. What else is coming? We won’t know until we know.