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The Business Online: Market braced for glut of oil and price cuts

By Richard Orange
01 October 2006
 
A gush of oil, worth more than $9bn (E7bn, £4.8bn), could flood the crude market over the next six months, driving the oil price back down towards $50 a barrel, according to research from Sandford Bernstein.

Neil McMahon, senior oil analyst, said: “I think there could be more than 150m barrels of oil sitting in storage playing an arbitrage game. As the flows into the commodity funds slow, then this oil will come out of storage, hit the cash market and move oil prices lower.”

The oil price has fallen more than 20% since hitting a record $78.40 a barrel in July, finishing trading on Friday at $62.91 a barrel.

The slump has pushed oil cartel Opec to allow its members voluntary cuts in production. Venezuela and Nigeria plan this Sunday to cut production by 50,000 and 120,000 barrels of oil per day respectively. But this could be dwarfed by the flow of oil that could potentially come to the market from storage.

The recent slump in the oil price has been punishing those invested in oil futures, while the cost of storage rises as capacity shrinks.

The worst hit have been those invested in funds such as the Goldman Sachs Commodity Index (GSCI), which buys future deliveries of crude and then rolls the contract forward every month, automatically selling the previous month’s contract.

When the oil price is in contango (the price of a barrel of oil for delivery in several months is higher than the price of a barrel on the spot market), the GSCI loses money with every monthly roll over if the oil price does anything but rise.

Investment in the GSCI has more than quadrupled since 2003, rising to $80bn. The GSCI invests in a range of commodities but is most heavily weighted to oil.

Figures out on Friday showed that financial speculators are already starting to cut their bet on a rising oil price. Data from the US Commodity Futures Trading Commission showed that traders had nearly halved their net long position in Nymex crude futures in the week to 26 ­September from 22,498 contracts to 13,685 contracts by taking out 13,738 new short contracts?

Much of the recent fall in oil prices can be attributed to the hurricane season in the US Gulf of Mexico, which has been unexpectedly mild up until this point. Last year hurricanes Katrina and Rita devastated oil production and refining infrastructure, putting serious pressure on oil supplies. 

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