As Oil Markets Tighten, Geopolitical Events Matter Again

May 2016, Vol. 243, No. 5

Oil prices jumped on Thursday as surprise outages came from Canada and Libya, reversing several days of losses. WTI and Brent surged by more than 4 percent in early trading on May 5.

The hellish wildfires sweeping swathes of Alberta near Fort McMurray forced the evacuation of tens of thousands of people. Alberta’s boreal forests are suffering through a bout of unusually warm and dry weather, and the tinderbox ignited and is quickly spreading. Wildfire officials in Alberta say that the fire could continue to grow, probably to about 100 square kilometers, and last at least until the weekend.

The fires forced several oil sands companies to ratchet down operations as employees and their families fled the region. Suncor Energy said that it “conducted an orderly shutdown of its base plant operations” near Fort McMurray, affecting 350,000 barrels per day of production. And because of the shortage of diluent in the region, Suncor said that its “in situ facility operations are running at reduced rates,” and “Syncrude facilities are also operating at reduced rates.”

Royal Dutch Shell also announced that it had shut down its Albian Sands mining operations. “While our operations are currently far from the fires, we have shut down production at our Shell Albian Sands mining operations so we can focus on getting families out of the region,” a spokesperson said. Shell produces 250,000 barrels of oil per day from its facilities and provided no timeline for when it expects to be back online.

Husky Energy said that it reduced production at its Sunrise oil sands project by two-thirds, ramping down to 10,000 barrels per day.

The outages are hard to quantify and their duration is also uncertain. But the fires immediately pushed up oil prices for Canadian crude. The outages may not last long, however, since the fires haven’t caused damage to any oilfields or mining operations. “We don’t have facilities at risk at this point, what we have is a manpower issue that is arguably temporary and we have to wait and see what that means longer term,” Tim Pickering, president of Auspice Capital Advisors Ltd., told the Financial Post. Western Canada Select, a benchmark price for Canadian oil, saw its discount to WTI shrink by 73 cents to $12.84 per barrel on Wednesday, its narrowest point in more than two months this week.

Thousands of miles away another potential oil supply outage is also putting upward pressure on prices. Libya’s oil production is a fraction of what it once was before its civil war, and two rival governments continue to fight for control of the country’s resources while also trying to fend off ISIS attacks. But the political battle could escalate, as the government in the East is moving to block oil exports from its territory.

In April, the Eastern government failed to export oil on its own due to international sanctions. The United Nations and the international community saw the unilateral move as a threat to the country’s fragile reconciliation process. But the eastern government is not giving up, as news reports surface that Glencore was unable to load oil at a terminal in Tobruk in the East because of the Eastern government’s interference. If Libya’s Tripoli-based National Oil Company is unable to export oil because of the dispute, some of Libya’s eastern oil fields could see production interrupted. The Hariga port in Tobruk normally exports more than 150,000 barrels per day.

In years past, a supply disruption like the ones seen in Canada and Libya would lead to a spike in oil prices. Since the market downturn in mid-2014, supply disruptions have had a much more muted effect, drowned out by a global glut of crude oil. The markets still need more time to reach a balance, but rising demand and falling supply are starting to chip away at the glut. That means unforeseen geopolitical events carry a lot more weight than they did in, say, 2015.

“The difference today compared with a year ago is the market is starting to price in supply disruptions, whereas in a market that is totally oversupplied, you don’t care about losing half a million barrels a day (in production),” Petromatrix strategist Olivier Jakob said in a Reuters interview. “The market is becoming much more sensitive to supply disruptions.”

By Nick Cunningham of Oilprice.com

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