From the Emirates Palace, OPEC announced yesterday that the existing output levels will remain. I had fully expected an increase in output by at least 500,000bpd and even more and take it to 1mb. As the statement was concluded I addressed the President, HE Mohamed Bin Dhaen Al Hamli, Minister of Energy of the United Arab Emirates, and the Secretary General, HE Abdalla Salem El-Badri to make my views known. They believe that the market is well supplied with oil, that supply and demand are in balance and the price is being driven by non-fundementals particularly speculation. They will monitor the market closely and meet again on 1st. February and again on 5th. March, both in Vienna to discuss further.

Back in September, with pressure mounting from both the International Energy Agency (IEA) representing the OECD countries and the US Energy Information Administration (EIA), OPEC demonstrated its willingness to support the market by announcing that output would be increased from the current output level, and not original benchmark level, by 500,000 barrels per day from 1st. November. At the press conference after the meeting I supported the OPEC action by telling the Secretary General that this action could bring the price down from just over $70 even closer to $60. He answered that OPEC was not driven by price indicating that OPEC is a “price taker” and not a “price maker”. That increase was not sufficient to calm fears that the world would be under-supplied with oil in Q4 and that given a crisis downstream there would be a serious shortfall if further supplies were not available upstream. Speculation increased, driving prices up, and the price for West Texas Intermediate (WTI) fell marginally short of the $100 level on a day when the market was hoping for that $100 threshold to be breached.

Investors were nervous, there could be a surge in profit taking, and those that didn’t move quickly could be left high. For the extreme market players the gamble presented a precarious opportunity – to pull out before or hang on for longer and make further gains. As the time of the 146th. Meeting approached, with the view that OPEC would increase further, profit taking brought the price down to below $90.00. Then, only yesterday, as counter rumours indicated “no change”, supported by the recent price fall, the price started to move back up again and by the end of today was around $3 higher than it was yesterday.

In 2005 OPEC was satisfied with $30 for its crude basket and then, in 2006, was content with $50 to $60 while today it is now enjoying prices from $85 to $90. Has a new threshold been set? OPEC claims to want a “reasonable” price but can’t say what it is. The hawks within OPEC, namely Iran, Venezuela and now with their new ally Ecuador, would be happy to see the price soar well above $100.00. As President Chavez of Venezuela said last year, “the floor is $50 and the ceiling infinity”!

There is a probable concensus from the doves that the price should be below $80 and perhaps nearer $70.00 and even with this level being quoted, the product is important – are we talking Brent, WTI or the OPEC Basket? It is whatever is the highest on the day, and this week as we awaited OPEC’s outcome, Brent has overtaken WTI marginally, with the two hovering around the $88-89 level while the OPEC Basket closed at $84.28 on Monday and $85.33 yesterday.

Since the US led invasion of Iraq in 2003, the price of oil has increased by nearly 200% while the dollar has fallen against sterling and the euro by around one third. The gain to oil producers from the higher oil price more than offsets any loss from the weakening of the dollar. As the price of oil rose, the dollar began to fall but OPEC purports that the fall in the dollar has created the increase in the oil price. Nevertheless the OPEC hawks who are predominantly anti-US are keen to see a shift away from the dollar a move supposedly resisted by Saudi Arabia and not on the agenda for today but on that for the Gulf Co-operation Council (GCC).

The GCC concluded its meeting in Doha this week and announced that it would keep its own currencies pegged against the dollar, supposedly at the insistence of Saudi Arabia although the status of the true mechanism has not been publicised. Many years ago when the US dollar was trading well above $2 level for Sterling, the producers spent much time debating a switch to the Special Drawing Rights (SDRs). The SDR is an international reserve asset, created by the IMF in 1969 to supplement the existing official reserves of member countries but it just didn’t catch on and here too, had they made the switch some losses would have been experienced. So, we have been there before.

There are many arguments running over the Supply-Demand scenario. There is a perception in the market that with a shortfall of product at the start of the supply chain, any further shorfalls or disruptions downstream can not be supported upstream. Basically, crude stocks for key areas which are monitored and benchmarked each week are showing a decline this year against last. OECD, US and Japan are just three that are followed with the greatest emphasis on the US stock data which is published each Wednesday and today, after the meeting came the news that US stocks of crude are now for week ending 30th. November 30mb below the level for one year ago. In the background other key indicators are emerging, namely output from Russia and consumption in India and China.

OPEC controls 40% of the supply base but the “observers” who sit in on the meetings and can ride along with OPEC make up a further 20% so one should not ignore that when we talk OPEC we are virtually talking about 60% of the world’s supply base. When it comes down to actual demand there is obvious concern if an economic slow down is envisaged as demand will obviously fall. However, with the migration of manufacturing away from the US and Europe, OECD base, to India and China, non-OECD base then the structure of the demand profile will change.

Taking data from the BP Statistical Review 2007 it reports that world demand in 2006 was only 0.7% higher than in 2005 representing a serious slow down and if this figure is repeated or less for 2007 then confirmation is conclusive. President Bush of the USA has already stated that he wants the US to cut consumption by 20% and any progress in this direction will impact on US demand. OPEC has to recognise that high oil prices take time to filter through and that economic growth is affected certainly in OECD countries which account for 58% of world consumption and have the potential expertise and resources to look elswhere for their fuel supplies.

OPEC is aware that geo-political developments have contributed to price volatility. Key to peace in the Middle East is primarily the long term conflict between Israel and Palestine. The US designed Annapolis Meeting held last week managed to bring together many representatives from Middle Eastern countries yet did not effect any form of solution and I don’t believe that could have been possible and one has to recognise that many such meetings will need to be held before the parties can move forward and eventually reach levels of agreement. Against this background there is a level of mistrust around the Middle East between the different countries and the OPEC arena is just one part of this and one can say that the “hawks and doves” environment exists beyond OPEC and, while OPEC always tries to distance itself from such domestic issues, it has to be aware of them and deal with them which leads on to Iraq.

Are neighbouring countries supportive to the rebuilding of Iraq? This is uncertain and across to the Northern part of the country concern remains as to the aspirations and objectives of Turkey. Are countries such as Iran and Syria actually aiding the rebuilding of Iraq or delaying it? Not an agenda for OPEC but one that prevails across all areas of discussion. The National Intelligence report issue this week by the US almost exonerates Iran from any suggestion that it is developing nuclear facilities for anything other than peaceful objectives and further supported by an earlier report from the International Atomic Energy Agency that indicated a similar view. Nevertheless is President Bush satisfied with this outcome or is he still intent on moving further towards some level of military involvement? Within the Middle East and across the EU diplomacy is the preferred route but the threat of military action against Iran the producer of 4mbpd of oil can not be discounted. It is just one more aspect to support a higher oil price in this very complex and precarious market.

The market is enduring a very volatile period and whereas I have some sympathy for the OPEC argument I firmly believe that price can be better managed if more oil is offered. In the short term, investors have the opportunity to return to the arena, push the price up again, as the world moves in to its coldest period and, at the same time, direct the more vulnerable countries, most affected by higher prices, towards recession as demand is curtailed further, increasing investment and support for alternative fuels. In the lead time to the February meeting the market will be severely challenged. We shall stay close and report back.

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