OPEC: All Talk And Out Of Control

Today's Analysis OPEC: Losing Control Of Oil Markets?

OPEC is losing its grip on the oil markets. One source is now describing the cartel's latest pronouncements as all talk.

OPEC has recently made it clear that it will be cutting back oil production. But, the markets are only responding to weekly supply statistics in the U.S., as a guide for the trend in prices of crude. This suggests that a prediction we made in Successful Energy Sector Investing, and repeated in a January 2003 article on CBS Marketwatch is slowly unfolding.

In a piece titled "OPEC's Last Hurrah," on Marketwatch, we noted: More important (than short term gyrations in prices) in the developing story of global energy is what the possible repercussions will be when OPEC collapses or becomes nearly ineffective in its quest to control oil prices."

In that article, we noted that the cartel was lacking in unity, and that two key members, Venezuela and Saudi Arabia were vulnerable to political and internal problems, which would eventually affect their production systems, and in the case of the Saudis, their political clout.

We also noted: "Venezuela (due to its 2001 strike and its aftermath) is beyond repair for several years. But the reasons for its fall are not exclusive. All OPEC countries have similar problems due to their non-Democratic governments and the subsequent creation of true economic class-warfare where oil money usually stays in the hands of the government and the ruling class. Therefore it is not hard to envision a set of circumstances, either concurrent with, or spurred by the U.S. attack on Iraq, where the streets of Riyadh could resemble those of Caracas, and where oil supply disruption from Saudi Arabia could also occur in a similar fashion to Venezuela."
Much of what we predicted has come to pass, while some has yet to come, or may never develop. But, one thing is certain, OPEC's voice is not the gospel in the oil markets that it used to be.

Talkin' Trash

According to Stratfor.com: "OPEC's ability to talk up the (oil) market is really just talk; more problematic is the fact that talk is now the only implement in Saudi Arabia's energy toolbox."

Stratfor notes that OPEC has a poor record of doing what it says it will do, and is notorious for cheating. A perfect example is this, according to the Stratfor report: "Market watchers, well aware of OPEC's long history of not matching words with deeds, yawned (after the announcement). After all, OPEC already was overproducing its quota by some 1.5 million bpd. The Saudi oil minister quickly followed with assurances that Riyadh, for one, was already alerting customers that it was reducing January shipments, leading to a brief market rally. The rally ended Dec. 14, when Nigeria proudly announced that, despite the quota cut, it would be increasing its output Jan. 1 by 150,000 bpd."

But, as Stratfor points out, the situation is more complex than just OPEC's usual cheating. Indeed, it is possible that the cartel, with the possible exception of Saudi Arabia, may not be able to do anymore than what it has already been able to do, with regards to production. "The question is not one of quotas but of production capacities. All OPEC countries -- as well as all non-OPEC countries -- are producing to their maximum capacity."

Stratfor poses an interesting thought. With oil prices still above $40 per barrel, a country like Saudi Arabia, and for that matter, all OPEC countries, which depend on oil revenues for almost all their operating capital, should be pumping all the oil that they can get out of the ground, and should be looking for more.

But, they are not, which leads to the Stratfor conclusion: "All of this leads Stratfor to one inescapable conclusion: Saudi Arabia, the bastion of the oil markets and the producer of last resort, has no excess capacity."

What follows, if Stratfor is correct, could be a major set of problems for the global economy: "Without spare capacity, production cannot be increased. Not only does Saudi Arabia not have spare capacity, it has not increased its capacity since the early 1980s, and its current production has never been surpassed. The 1 million barrels it has said it could bring on line either do not exist or never existed. Saudi Arabia not only is pushing its production envelope, it is unable to add new production in a short enough timeframe to impact the markets at all."

Stratfor's conclusion: "With OPEC's leader powerless to do anything but talk, and with OPEC's quota discipline in shambles, future energy markets will resemble the pre-1973 era of crazy highs, crazy lows and lightning price changes in between."


OPEC's days could indeed be numbered, if not in name, then in its ability to control the oil markets.

The cartel's lack of foresight with regards to its own production capacity, the internal political strife within its member countries, and the ongoing rivalries between members seem to have finally caught up with the cartel.

If indeed Stratfor's analysis is correct, volatility in the energy markets will be a way of life in the near future.

One thing that supports Stratfor's analysis, and our own, is the fact that OPEC countries, as we reported earlier this week, have been heavy buyers of U.S. Treasury bonds. That suggests that they are quietly flying to safety. The recent rally in treasury bonds also supports the notion that big money players somewhere are possibly preparing for something nasty in the future.

It could take some time before this kind of scenario develops. But, if and when it does, it could create both trouble and opportunities, for investors, energy companies, and governments.

2005 promises to be yet another interesting year.

Oil Markets : 200 Day Moving Average Holds

Crude oil futures held at the key technical support level provided by the $40 area and the 200 day moving average on 12-15. The short term reaction came in response to the most recent set of supply figures which painted a picture of a still tight supply. Especially bullish for the price of crude was the less than expected supply of distillates, including heating oil. The surprise came as temperatures are dropping dramatically across the U.S.

For some time, we have been talking about the $43 area as a key resistance area. It is now support, forming a band between $40 and $43 as the key support to watch, along with the 200 day moving average.

A sustained break below $40 would signal a likely end to the bull market. The next down leg, if $40 does not hold would be $35-$37.

The Philadelphia Oil Service Index (OSX) closed above 120, and above the 20 and 50 day moving averages. Volatility will likely increase here in the next few days. For more details on trading the energy sector visit our energy timing page, featuring our highly effective OIH timing model and our Top Ten Energy Stock List.

The Amex Oil Index (XOI) closed above the 686-720, pivot band, and above the 50 day moving average, suggesting that prices are getting ready to attempt a move up. For immediate analysis, including stock picks, and the latest in technical analysis of the entire energy complex, our subscriber section has a full complement of recommendations in oil service and the rest of the energy complex.