GEOPOLITICAL risks are a key aspect when it comes to analysing oil markets, but it’s easy to forget that different regions produce different blends of crude oil.
Heavy crude, high in sulphur and more difficult to pump, is supplied, for example, by Saudi Arabia, the world’s swing producer and the only country able to increase capacity. However, light sweet crude, the most sought-after oil blend because it contains large amounts of gasoline and diesel, comes from countries where civil wars rage and violence is rising.
Libya is the main light sweet producer in the headlines at the moment, with governments, international organisations and the media concentrating on the situation post-Gaddafi. The UN and the EU have started to unfreeze assets, while the Friends of Libya summit in Paris last week welcomed the National Transition Council as the newly recognised government.
Yet, Gaddafi is still at large and the fighting continues. Even if the civil war were to end today, it is unlikely that oil production would be able to resume swiftly, let alone return to full capacity.
Oil facilities remain damaged (though to what extent remains unknown) while damage to reservoirs from emergency shutdowns will likely be significant.
Moreover, when Gaddafi’s regime eventually falls, the transition to a democratic nation will undoubtedly be accompanied by complications.
Violence has been escalating in Nigeria, another significant producer of light sweet crude. Any disruptions to the production of Nigerian Bonny Light, as the blend is called, could tighten the market significantly.
Nigeria is Africa’s largest producer but the distribution of its oil wealth to a powerful select few in government has been among the causes of militia attacks in the past, especially on oil facilities.
Elections have more often than not been a catalyst for a surge in violence and, indeed, it was no different in April’s poll. Although it went relatively smoothly, President Goodluck Jonathan’s decision to run for office again, and his subsequent victory, was expected to cause difficulties.
The presidency normally rotates between the north of the country, which is predominantly Muslim, and the south, mainly Christian part. Jonathan’s win meant the south extended its power for a second term, and violence has been on the rise in the north since. Recently the Islamist group Boko Haram has increased attacks on the capital; oil theft and sabotage to pipelines have risen, leaving oil traders unsettled about potential raids on big facilities.
Indeed, these risks are now being priced in, evident in the higher premium of Bonny light crude over Brent, which hit a 25-year high of $5.71 last week.
The fight for political leadership and security stability in the Middle East and Africa are likely to remain key themes going forward. Fluctuating macroeconomic sentiment may weigh on prices in the short term, but increasing risks to light sweet crude output could tighten the market considerably, setting a solid foundation for prices in the long term.
:: Andrew Miller is regional office head of Barclays Wealth in Newcastle
