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Energy: Volatility on the rise

Dec 21, 2001

Considering the strikes on Afghanistan, looming OPEC production cuts and high consumption winter months one could bet that oil markets are likely to witness a similar run as last year. However, over the months of October and November oil prices steadily declined from the post September 11 highs of $30 / barrel to a two year low of $16.5/ barrel. This could indicate the extent of bearishness regarding global GDP growth. Currently, oil prices have retraced some of their steps and are trading at $19.5/ barrel (Brent blend). Volatility in the market has not been without cause. The Organisation of Petroleum Exporting Countries (OPEC) adopted a hard stand with non-OPEC producers on cutting oil production for propping up oil prices. Over the current calendar year the OPEC has cut production by 3.5 m barrels/ day (mbd), which has helped balance demand-supply in the market. Non-OPEC producers, meanwhile, have been riding piggyback on OPEC cuts.

This time around, the cartel is negotiating with other major producers to chip in with production cuts to prevent further softening in oil markets. In 1998, oil prices had fallen to $10/ barrel. OPEC has argued that non-cooperation from these producers could lead to a market share war and pricing similar to 1998. The OPEC is likely to meet on December 28, 2001 to finalise the next round of cuts to be implemented starting of 2002. OPEC has promised production cuts of 1.5 mbd, which is conditional to major non-OPEC producers removing 500,000 bpd of oil from the markets.

Non-OPEC producers including Russia, Mexico and Norway, the three main producers, have firmed up equal cuts aggregating to 450,000 bpd. The remaining 50,000 bpd is likely to come from Oman and Angola. In recent week, prices have climbed, as non-OPEC producers, collectively, are likely to meet their target. Markets will be looking forward to the outcome of the meeting. Also, oil prices are likely to be impacted by forecasts on global GDP growth. Whether they build in a recovery or not?

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