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11/28 11:02 OPEC Worry Over Oil Price Plunge Is Misplaced: Brendan Moynihan By Brendan Moynihan

Nashville, Tennessee, November 28, (Bloomberg) -- The Organization of Petroleum Exporting Countries this month deferred a decision on any change in oil production until January. OPEC's own oil price index is up 35 percent this year even after four output increases, yet the producers left open the possibility that their next move may be to cut, rather than increase, output.

Why cut? Because some ministers are concerned that an oil price collapse is likely in the second quarter of 2001 if production rates stay at current levels.

Ali Rodriguez, OPEC president and Venezuela's oil minister, warned a few months ago that the price of the group's benchmark basket of crude oils could fall back to 1998 lows close to $9 a barrel.

Yet the longer-term supply and demand numbers just don't support a case for a price crash like the one we experienced in 1998. That's because supply conditions now are different from those that prevailed in 1997, before the collapse.

First, consider that from 1991 to 1999, ``capital expenditures in the oil business around the world expanded at the rate of 11.5 percent per year,'' according to Charley Maxwell, Senior Energy Analyst at Weeden & Co in Greenwich, Connecticut. ``One could argue that the 11.5 percent capital expenditure rate is needed to generate stable prices. In 1998, capital expenditures were flat and in 1999, they were minus 18 percent.''

Keeping Prices High

Clearly, the industry has some catching up to do just to get back to the past decade's average. But there is a time lag involved for spending on exploration and development to have an effect on oil supplies and, therefore, prices. That delay alone could keep the price of crude above $20 a barrel for at least a few years.

Next, consider OPEC's shrinking surplus capacity since the end of the Gulf War. In 1991, there were some 12 million barrels a day of surplus OPEC capacity. The cartel could tap it pretty much at will. Today, OPEC has fewer than 3 million barrels a day in surplus capacity.

This means that over the past nine years, the market has had the benefit of an extra 1 million barrels a day per year in supply without having to ``pay'' for it, so to speak, in the form of increased capital expenditures. It was, in effect, a ``free'' source of extra supply.

Demand Growth

Meantime, global oil demand is chugging along.

The International Energy Agency, which coordinates energy policy for 23 industrialized nations, said earlier this month that demand for oil in the first quarter of 2001 will jump by 2.6 million barrels a day from a year earlier.

The Centre for Global Energy Studies, a think tank founded by former Saudi Arabian oil minister Sheikh Zaki Yamani, has forecast a rise in demand of 3.2 percent next year, or about 3 million barrels a day, roughly equal to the amount of oil OPEC put on the market this year.

So the industry is going to have to start ``paying'' in order to bring additional supply to the market. They will do it, though it will take time. The high prices now are enough of an inducement, but the industry wants to see these prices north of $20 stick for a while before increasing their capital budgets. And that will prevent a crash in oil prices for at least several more years.

If OPEC delays any decision on further quota changes until January, as some members said it would, it would effectively preempt OPEC's price band mechanism. The band called for automatic production increases or decreases to keep the average price of seven types of crude oil OPEC monitors between $22 and $28 a barrel.

Raising Output

This mechanism was activated on Sept. 8, and the group increased quotas by 500,000 barrels effective Oct. 1, at which point the count started again.

Prices stayed above $28 for an additional 20 trading days, the time span the mechanism needs to be triggered, and OPEC again boosted output quotas by 500,000 barrels, effective October 31.

According to Bloomberg estimates, output from all 11 OPEC members reached 29.57 million barrels a day last month, the highest level in 21 years.

Yet the additional OPEC oil, plus another 30 million barrels promised for release from the U.S. Strategic Petroleum Reserve, was not enough to bring OPEC's benchmark crude oil price back down into the $22-$28 range.

No Automatic Boost

In fact, the price has been above the $28 ceiling continuously since Aug. 14. The index price recently stood at $31.61 a barrel and based on oil prices so far this month, the next trigger point would have occurred this week. OPEC President Rodriguez said the producers may not automatically boost output again if prices hold above $28 for the required 20 consecutive days.

``We will maintain the band but there are other factors that are impacting the price,'' Rodriguez said. An output rise ``depends on the situation in the market.''

The longer-term supply and demand dynamics of the oil market suggest OPEC's fears of another price collapse are misplaced. And with the group backing away from the price band, we can expect firm prices well beyond the second quarter of 2001.

http://quote.bloomberg.com/fgcgi.cgi?ptitle=All%20Columns&touch=1&s1=blk&tp=ad_topright_bbco&T=markets_fgcgi_content99.ht&s2=blk&bt=blk&s=AOiPXMhYNT1BFQyBX

-- Martin Thompson (mthom1927@aol.com), November 28, 2000