Saudi Oil Output Cut Clue to High Prices

NEW YORK Jun 06, 2006 (Dow Jones Commodities News Select via Comtex) With Saudi Arabia's latest revelation, there's one less mystery to what's been behind oil price strength over the past few months.

While Saudi Arabia has said it's investing heavily to raise its oil output capacity to 12.5 million barrels a day in 2009 from 11.3 million b/d, the world's No. 1 crude producer has been quietly cutting back current volumes.

Saudi Oil Minister Ali Naimi, in an interview with The Wall Street Journal published Monday, said the country's output in April averaged 9.1 million b/d, its lowest level since January 2005.

Global oil prices have risen 10% from a first-quarter average of $65 a barrel to hold above $70 since the cut was implemented.

Naimi, speaking after the Caracas meeting of the Organization of Petroleum Exporting Countries, said the reduction was in response to a drop in demand, not an attempt to limit supply and prop up prices.

The oil minister suggested that the Saudis and others in OPEC would be happy to sell all the oil they could at current prices, implying that the Kingdom will lift supplies when demand from refiners increases.

The policy solidifies the Saudis' preference to act as a price-taker rather a price-maker in the current market, as Naimi ruled out discounting oil to sell it or offering cargoes on the spot market.

"We will not leave money on the table," Naimi said.

The Saudi attitude seems to suggest that, while the Kingdom might not directly endorse the current level of global prices, there is an attitude of acceptance and the Saudis clearly aren't going to act aggressively to bring it down.

Analysts said that while they couldn't quantify where prices would be if the Saudis hadn't taken a deliberate decision to reduce their output, oil prices most certainly would be weaker.

Don't Count On Saudis To Lower Price

The oil market, more than ever, has come to resemble an intricate Persian carpet, with many factors tightly woven together. Unraveling it can't be done by pulling on a single thread. Still, given Saudi clout in the market - the country holds most of the world's spare capacity - the Kingdom's output policy is central to the course of prices.

"If you're an American and counting on the Saudis to bring the price down, you're counting on the wrong horse," said an oil analyst who spoke on the condition of anonymity, citing his company's sensitivity in dealing with the Saudis.

The Saudis and OPEC have come under steady criticism from many in Congress for production restraint policies that are seen as fueling the continuing price rise. After campaigning in 2000 to "jawbone" OPEC into lowering oil prices, the Bush administration has shifted to seeing the Saudis as a reliable supplier of oil, while de-emphasizing prices and talking of using alternative fuels to limit oil imports down the road.

Crude oil prices have been pushed to nominal record highs by a host of factors on the supply and demand side. Soaring oil use in China and other developing countries came as geopolitical factors have disrupted output across the globe from Iraq to Nigeria to Venezuela at a time when there's little spare production capacity. An attempted terrorist attack on the world's largest oil processing facility in Saudi Arabia, and tensions over Iran's nuclear ambitions are keeping prices near $70 a barrel.

On the New York Mercantile Exchange, crude futures approached $74 Monday after Iran's supreme leader, Ayatollah Ali Khamenei warned that Iran would disrupt energy shipments from the Gulf should the country come under attack from the U.S. The U.S. and its allies are attempting to negotiate an arrangement with Iran which will prevent it from gaining the ability to produce nuclear weapons, while Tehran insists it only wants to develop nuclear power.

Ahead of the OPEC meeting, host Venezuela made hawkish comments that it wanted the group to cut output, even in the face of current high prices. While OPEC officially kept its output ceiling unchanged at 28 million b/d, the Saudis in cutting back have moved back to their assigned quota level.

Some analysts don't see Saudi Arabia revealing itself as a true price hawk with the singular move.

"The Saudis are not trying to cut (output) to bid up prices," said Yasser Elguindi, senior analyst at Medley Global Advisers in Philadelphia. "That's wholly absent from Saudi production policy now. There's no linkage whatsoever."

Supply To Rise With Refiner Demand

The Saudis "are having trouble moving product and are just not going to keep it out there on the market. They are reacting to things going on around them," Elguindi said, such as steep cutbacks in refinery operations in recent weeks. In early April, U.S. refiners processed their lowest volume of crude oil for that time of year since 1997.

Elguindi said it's "much more difficult today to get a handle" on the global oil market than ever before. That's because much of the growth in demand apparently is coming from countries such as China where data is often unreliable. And refiners want to hold more crude than ever before in a market with fairly tight spare production capacity.

Naimi told the Journal that the Saudis were having difficulty finding buyers for all of its grades of crude, not just harder-to-refine heavy crudes.

The newspaper quoted a senior Iranian oil official at the OPEC talks confirming that his country, the second-biggest producer in OPEC, was having trouble selling oil and was storing it, rather than selling it.

In the U.S., refiners are expected to sharply boost operations in coming weeks as the peak summer demand season for gasoline approaches. Medley's Elguindi believes that as U.S. refiners increase their appetite for crude, Saudi output will also rise.

"They'll be back at 9.4 to 9.5 (million b/d) in the not-too-distant future," he said.

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