The Woes of OPEC

With the news of oil prices at just about $40/barrel today and analysts like David Moore from the Commonwealth Bank of Australia predicting that it was "way, way premature" to think that the commodities markets have hit bottom in the AFP (Merrill Lynch predicts that oil could go to $25/barrel in 2009 if the recession spreads to China, according to their new report), one wonders what has happened to OPEC. The papers were filled earlier this week with ridicule for the group after they had failed to reach consensus on a production cut during their impromptu meeting in Cairo over the weekend. Business Middle East staff writers suggested that OPEC indecision heralded a return to the 1990s when the group badly misread the Asian financial crisis and let oil fall to $10/barrel. Even Saudi King Abdallah's attempt to set a marker of $75/barrel as a "fair price" for oil right before the Cairo meeting (the first attempt by any OPEC member to set a price marker since oil began its climb in 2004) was ignored outright by the market in the wake of depressing economic news out of the US. So was Qatari Oil Minister Al-Attiyah's announcement that the group would surely cut at its scheduled meeting in December.

All of this hoopla surrounding OPEC's ineffectiveness in the face of the oil price downturn confirms my long held belief that OPEC doesn't really matter at all when it comes to determining the price of oil. I recognize that this is not a particularly profound statement in the wake of falling prices, but I would argue the same to be true when prices were rising. I don't deny that OPEC makes all the difference in the world when it comes to supplying the markets but the idea that the group can effectively target a price (or control a price rise or fall) is laughable. Witness Saudi's make-or-break moment in June when they announced an out of cycle production increase (a move which they knew to be completely unnecessary to a well supplied market) in the hopes of dampening down a furiously rising price of oil. The market barely blinked an eye and continued going up. The fact that the market moved more this summer on the "wisdom" of Jeff Currie at Goldman Sachs than Ali Naimi proved to me, at least, that something very quirky way going on in commodity markets. In fact, much of this "quirkiness" was elucidated in a fascinating article in the Washington Post in August which explained that much of the price volatility in the oil markets in July, at least, was being caused by a single firm: Vitol. It's too bad not more attention was paid to the story. Stories like that raise my conspiracy hackles a bit and I wonder how much people in the business of trading really knew what was going on despite the bunk analysis they kept churning out.

So where does all of this leave OPEC, our favorite bogeyman when times are bad? In not a very good place, I am afraid. As long as market forces keep driving the price of oil down (and I am on record in this blog with the belief that markets are currently overshooting), there isn't much OPEC can do to intervene. Production cuts are not going to solve much if the market remains bearish just as increases did little to stave off the bull market. But no one, including OPEC, should get used to low oil prices. What comes down will go back up. And in this current environment, if oil company executives in both the IOCs and NOCs convince themselves that they cannot afford to investment in exploration and drilling, we're all in trouble in the long run. I have a feeling that market volatility is here to stay.

Think the OPEC topic is interesting? Check out these stories-

http://www.bi-me.com/main.php?id=28429&t=1&c=6&cg=2&mset=

http://www.bi-me.com/main.php?id=28177&t=1&c=6&cg=2&mset=

http://www.zawya.com/story.cfm/sidZAWYA20081205080721/?query=OPEC