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Why Oil Prices Could Continue Rising

Brian Hicks

Written By Brian Hicks

Posted July 12, 2013

Oil prices have gone a little haywire as of late, and that’s putting it lightly. The geopolitical climate concerns are sending oil prices straight up. Libya production is offline, there’s mounting political unrest in Egypt affecting shipping lanes, and then you have the U.S. pushing its way into new territory.

It seems like everything is surging right now, and all avenues of the oil industry are firing on all cylinders – well, except for those that are shut down. But that MORE, MORE, MORE mentality is going strong.

crude oilThe only thing that’s seeing a decline is U.S. inventories, and that’s only because shipping efforts are finally starting to reach a larger potential, moving the bottlenecked domestic production.

A government inventories report Wednesday showed the steepest two-week decline in crude inventory in 30 years, according to CNBC, a drop off of 9.9 million barrels from last week – a week that saw a 10 million barrel decline from the week before that.

And that’s driving domestic prices higher. Producers have been waiting for some time now to find ways to move the millions of barrels of shale oil from places like the Bakken and get it to coastal refineries. And by turning to the old American railroad, it’s starting to pay off.

The U.S. is no longer in its own little bubble, and that’s why we’re starting to see a rise in domestic prices. That’s why it looks like the trend is starting to follow the global price of oil – something many feared but also expected as U.S. production continues to push forward.

The oil price hike here in the U.S. may be getting slightly ahead of itself; the average national price of gasoline at the pump is $3.50 a gallon, and that is expected to reach around $3.60 sometime soon. It goes to show that outside factors will contribute to domestic disturbances more and more.

Global Issues

Egypt just ousted its President Mohamed Morsi on July 3, and there has been much resistance ever since, most of which has been peaceful protests against the nation’s military. But anger is flaring against the new regime, and Egyptian Muslims are demanding Morsi be reinstated.

This puts a keen eye on the country’s Suez Canal and the SUMED pipeline that links the Red Sea with the Mediterranean. Together, they account for nearly 4 million barrels of crude oil and its bi-products each and every day.

There are other routes that may help maintain supplies, but the SUMED transports mainly to the north and supplies largely to Saudi Arabia and Iraq, as well as European markets.

Any disruption to one or both of these routes would weaken the markets. Supply lines would have to be re-drawn, and companies would have to find alternatives such as the Horn of Africa, which would add an additional 15 days of transit.

Iran was banned from using the SUMED pipeline recently, so all of its exports to Turkey rely solely on the Suez Canal. And Iran has shut down its Strait of Hormuz in the past, a passage that one fifth of the world’s traded oil uses. If the nation decided to do it again, it would disrupt many of OPEC’s operations.

The SUMED is supposedly less susceptible to risk due to the fact that it runs through the desert and uninhabited terrain, but the Suez Canal is quite the opposite, running through city dwellings. The pipeline would be able to handle some of the canal’s load, but it would still create a major disruption.

As of today, operations in these supply routes are continuing as normal; they’re just on shaky ground.

WTI and Brent

It’s interesting to see how the West Texas Intermediate (WTI) and Brent crude prices play off one another as things happen. The WTI used to be higher, and then the two reversed. Now it looks like the gap is closing again.

Today, Brent for August delivery was at $108.85 and WTI stood at $106.00.

The spread between Brent and WTI has been narrowing with the influx of U.S. supply and the unrest in other parts of the world.

It wasn’t long ago that the spread was right around $20. And just yesterday, the spread was as low as $1.32, the closest spread since 2010.

In all likelihood, as trends continue in the U.S. and in the Middle East, the two prices will continue to move together. They’re starting to run along the same lines, and producers and investors alike will more routinely start to look at the two lines as one entity.

The thing to always remember: the oil industry is booming like never before, especially in the U.S. and in particular in the Bakken shale. Records are being broken every single day in North Dakota.

And this price growth will be even more impetus for increased production as producers work with favorable prices. Expect U.S. oil production companies to benefit.

 

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