Lehman Brothers, the investment bank, has estimated that fuel is 30 per cent overpriced because of an influx of money into the oil market from investment funds.
It believes that hot money accounts for between $20 to $30 of the recent increase in oil prices and that about $40 billion (£20 billion) has been invested in the sector so far this year — equal to all the money pumped into oil last year.
The price hit a record of nearly $120 a barrel on 28th April 2008, after North Sea production was shut down because of the Grangemouth refinery strike. In early trading, the price of US light crude rose $1 to $119.93. Prices later retreated to settle up 23 cents at $118.75 a barrel.
The situation may get even worse in the coming months. Chakib Khelil, the Algerian Energy Minister and president of Opec, said that crude could reach $200 a barrel.
The price rise comes despite a 400,000 barrel-a-day reduction in physical demand from the United States, which is consuming less because of its economic slowdown. This has been more than offset by funds seeking alternative investments to the falling US dollar.
Michael Waldron, energy analyst for Lehman Brothers, said: “There has been an increase in financial demand as many funds have poured into oil as a hedge against inflation and the weakening US dollar. This has been the main factor in driving the price in recent months. We do not think the fundamentals justify oil at $120 and, without financial demand, we think it would be trading at $20 to $30 below that level.”
Analysts fear that the price will rise even higher as supply shortages get worse in the coming months while both physical and financial demands increase.
On the supply side, shortages may occur if there is a bad hurricane season in the Gulf of Mexico and because the oil industry typically saves maintenance work at fields such as the North Sea for good weather.
Rapid economic growth in the Middle East has led to a large increase in energy consumption, which is diverting oil and gas away from export markets to feed domestic needs. This has exacerbated the effect of rising energy demand in the region.
Yesterday’s increases came as the workers at Grangemouth, which is operated by Ineos, a chemicals company, began the second day of a two-day strike over pension benefits.
This forced the closure of the 700,000 barrel-a-day Forties pipeline and sparked fears that Scotland and the North of England could face petrol shortages. Grangemouth supplies 10 per cent of the UK’s petrol but also produces power for BP’s Kinneil plant, which processes the oil from the Forties pipeline.
The impact:
The high price of oil is having an impact on the global economy, with airlines failing and drivers paying more to fill their cars. Eos, the business-class-only airline, went into Chapter 11 bankruptcy protection yesterday and joins at least six other carriers that have also been grounded in the past two weeks by high costs.
Conclusion:
Though the report is not all conclusive, and I would further investigate into the matter but seems as of now is:
- Lot of fund managers are putting money in Oil to hedge against weakening dollar and recession.
- Lack of sentiments in equity market world over is driving money towards Oil & Oil bonds.
- When the physical demand for oil would join the financial demand, the prices would accelerate northwards without any brakes...all leading to a bubble.
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