High Oil Demand Consensus Grows; Still Fewer Talk Of Demand Destruction.

The consensus that world oil demand will remain strong in the years ahead continues to build up to what could become potentially a dangerous level. The number of those talking about demand destruction is decreasing, while prices of conventional crude oil remain dangerously high.

Addressing the 10th Annual IIES petroleum conference in Tehran, which was held on Dec. 4-5, APS Energy Group's President Pierre Shammas warned that the dangers of world oil demand destruction was becoming as high now as it was in the mid-1970s, when the consensus was for world demand for conventional petroleum would exceed the global supply capacity by the late 1990s.

The very opposite had occurred through the 1990s and more than 25m b/d of world oil demand had been destroyed. The value of refining, storage and shipping capacity and other assets destroyed in the process exceeded $600 bn.

Already a big number of alternative fuels are competing with conventional oil, beginning with synthetic crudes now being produced at the cost of $14-16/barrel from Canadian tar sands and Venezuelan bitumen. These raw materials are alternative sources of energy.

Producing ultra-clean motor fuels from gas-to-liquids (GTL) plants has become profitable even if the price of conventional crude oil is $22/barrel. The market prices of conventional crude, such as WTI, are more almost three times higher.

Shammas said the lead-time for new alternative fuels hitting markets and destroying a share of conventional crude oil now is up to three years. The danger period for OPEC could be from the end-2005 to end-2008. If conventional crude oil prices in this period remain twice higher than they were in 2003, then world oil demand for conventional crude oil by 2010 could be much lower than being forecast at present.

He said OPEC and the Greater Middle East accounted for more than 60% of world demand for crude oil, refined petroleum products and gas liquids - including condensates but excluding LNG. This vast area has a capacity, sustainable for 12 months, to produce up to 50.9m b/d of these liquids. The countries in these regions, including the former Soviet Union and Africa (excluding Central, Western and Southern African countries but including Egypt, Sudan and Tunisia), have firm projects to raise their sustainable capacity to 60.2-62m b/d by 2010.

Shammas said for the period beyond 2010 no one knew for certain what these groups of countries will be able to add to their sustainable production capacity. "One of the key questions recently raised by Saudi Arabia is world demand beyond 2010. One of the key answers should be the price of crude oil...between now and end-2008 - rather than 2010" - or between the beginning of 2008 and end 2011".

Several ICOs, including Shell and BP, have set up alternative fuel businesses. BP Alternative Energy has its own business unit for alternatives and renewables. BP is investing $600m/year in alternatives and renewables in 2006 to end-2008. And BP says its projects should prove their profitability quickly.

Shammas added: "This is precisely the time...[for] IOCs as well as OPEC and non-OPEC oil exporting states to invest in expanding oil refining capacity and in deep conversion plants to turn heavy/sour crude oils into light fuels. The next three-year period will be a critical test. If such refining and deep conversion capacities are expanded on a big scale, by more than 12 million b/d before 2009, then world crude oil prices will fall, preventing a massive shift to alternative sources of energy. If such expansions do not materialise and if, consequently, world prices of conventional oil remain far above $50/barrel for WTI, then there could be major demand destruction for conventional oil. If by late 2007 world oil demand destruction has become an established fact, the IOCs and many of the national oil companies (NOCs) of OPEC and non-OPEC states will decline to invest in oil refining and other capacities needed to sustain global demand for conventional oil".

"Lack of investment...in the whole chain of the world's conventional oil business from 2000 to 2010, could mean this is the decade of oil demand destruction. In that case - if that happens, as no one knows - it will be the most crucial decade of transition from conventional oil to its various alternatives - starting from synthetic crude oil from bitumen or tar sands to liquids derived from natural gas and coal, and then to the renewables and nuclear energy".

However, Shammas concluded his presentation by saying his hope was that such a forecast would be proven wrong by 2010. The following are other extracts:

"...[The] debate about what is a fair market price for OPEC's basket of crude oils and what is not fair has only just begun to get more serious between oil exporting states and consumer governments...[Some] people in charge in certain parts of the OPEC world usually find out about the consequences of competition from alternative fuels when it has been too late. Demand destruction from competition out of alternative fuel producers and of energy efficiency comes with little or no warning from a market which does not give the right signals. It is a market far from today's futures trading floor - the floor for paper oil which is a financial market with investors not necessarily obliged to know much about the real oil business.

"For the short term, we have a somewhat balanced situation between now and end-2008. OPEC and non-OPEC supplies will match demand, but rather in a tight market which will keep speculators in paper oil - oil futures trading which now is far bigger than physical oil in terms of volume promised on paper - convinced that future oil will be more expensive; so they push the price of paper oil up, be that for WTI or Brent, or for refined petroleum products or natural gas. Of course, they will push the price of paper oil down if they smell trouble, and as a result prices of physical oil will go down quickly. No one knows when that will happen.

"...Although a $55/b price for OPEC's basket of crude oils is less than $28/b in 1980 US dollar terms, with this adjusted taking down the inflation factor, a wide variety of fuels from sources other than conventional oil are profitable to their producers even if the current value of OPEC quota crudes is below $25/b.

"An OPEC target to boost oil inventories in the Northern Hemisphere to the highest levels in years could spell the end of oil's protracted rally. But it is not likely to cause a collapse in crude oil prices. Fund analysts, now more important than experts in the spot market for physical crude oil, advise the huge army of speculators in oil and energy futures trading on MYMEX or the IPE.

"Today's futures price of WTI, an American light/sweet crude which does not trade physically outside the US but sets the price for crude oils worldwide, still carries a fear premium of almost $30/b. This is too high. It makes alternative fuels competitive; it makes efficiency in energy use more attractive. The switch to alternative fuels, mostly cleaner than those from conventional oil, has become more imperative than before.

"The fund analysts are not predicting a flight of investment money from oil futures. They say the fact a doubling in prices over the past two years has been demand-driven means the market will hold relatively strong. Yes, but fund analysts do not need to know much about physical crude oil, or the economics of those fuels which are derived from conventional petroleum, be that oil or natural gas.

"OPEC's current President and Kuwait's Energy Minister Shaikh Ahmad al-Fahd al-Sabah says the group is targeting a stock level of 56 days of forward demand cover to try to cushion consumers on both sides of Suez during this winter. OPEC has previously described 56 days of forward demand cover as excessive.

"Crude oil prices will not fall below the Saudi tolerance level of $45/b for OPEC's basket...because of a shortage of storage in Europe, the US and Asia. Demand for distillates in Europe is strong. Asia has been sending its distillate glut to Europe; the Middle East export refiners have been doing the same. But there is a serious shortage of distillates in Europe...which could cause crude oil prices, particularly in the case of light/sweet grades, to shoot up. Low water levels on the Rhine in recent weeks have prevented inland deliveries, with supplies for winter then trapped in primary storage in the Rotterdam area. The situation would not be so bad if the water levels rise.

"A futures price of $45/b for WTI means it is actually worth $22.50/b in 1980 US dollar terms. This means OPEC's current basket price is worth less than $20/barrel. But even if the actual price's value of WTI falls to $45/b, before rising again towards $60 or higher, this will not stop alternative fuel makers from producing at their maximum capacity and from expanding capacity further.

"...The most important factor right now, and at least until late March 2006, is the role of futures oil trading. This will keep pushing oil prices up whenever prices of both paper and physical oils go down.

"The second most important factor...now is the shortage of oil refining capacity in the US, by far the biggest market for heating oil in the world. Some refining capacity remains off-line in the US because of Hurricanes Katrina and Rita which hit vital petroleum installations on the Gulf Coast.

"Had there been no hurricanes in the US Gulf of Mexico, which hit in late August and in September, several major American refineries would have had the necessary maintenance before the onset of winter. Because it is too late for that, utilisation rates at all the US refineries are dangerously high for comfort. The slightest accident can cause heating oil and WTI prices to rise.

"OPEC has been producing nearly flat out - sometimes at more than 30.4m b/d for months - as it seeks to fill storage tanks and tame prices - with front-month WTI having hit a $70.85/b record on Aug. 31. Swelling inventories have cut $13/b off front-month WTI at NYMEX since then..."

BP Alternative Energy Business: Created recently, BP Alternative Energy is investing $1.8 bn over the next three years, spread equally between solar, wind, hydrogen and combined-cycle gas turbine (CCGT) power generation. As reported on Dec. 5 by Petroleum Argus, this intends to grow its renewables business quickly. It is planning to boost wind power capacity from 30 MW to 450 MW within three years, and double solar panel production capacity to 200 MW/year by end-2006.

BP's most innovative projects relate to its development of commercially viable hydrogen power plants. It is to build a 350 MW plant at Peterhead, Scotland, which will strip hydrogen from natural gas, leaving CO2 to be sequestered in depleted oil reservoirs. In the US it will have a 500 MW plant powered by hydrogen stripped from petcoke.

Petroleum Argus said the BP restructuring, with Shell Renewables set up in 1998, "suggests that the technologies will evolve from the fringe to the mainstream, much like natural gas has since the majors began to establish separate global gas units in the 1980s". Argus said BP Solar was profitable for the first time last year.

Like BP, with the Europeans leading the way in renewables, Total is investing in solar, wind, hydrogen and CCGT generation, as well as taking a major role in developing biofuels for the transportation sector. Shell is building on the $1 bn it has spent on wind, solar, hydrogen, geothermal power and biofuels in the past three years.

OPEC Raises Oil Demand Forecast: World oil demand will increase by 1.9% in 2006 to 84.9m b/d, OPEC said in a report released on Dec. 16, updating a previous forecast of 84.8m b/d. It said this "slight increase" over its outlook issued in November was caused by stronger demand projections in the major regions.

Demand growth in China is to account for 1.6m b/d, more than one fifth of the increase. For 2005, OPEC cut its demand estimate by 40,000 b/d to 83.3m b/d - an increase of 1.5% compared with demand in 2004.

The forecast was in line with estimates by the IEA, whose monthly report said on Dec. 13 demand would grow by 1.4%. The IEA expected oil demand to grow by 2.2% next year to 85.2m b/d.

On Dec. 12, the 11 oil ministers of OPEC met in Kuwait and decided to leave their production levels unchanged at 30m b/d, declaring themselves happy with market conditions and vowing to take action at OPEC's next meeting on Jan. 31 in the event of a fall in prices. OPEC members are producing at near full-capacity with output at levels unseen for 25 years. The OPEC report said non-OPEC production in 2006 would be 51.6m b/d in 2006, up 1.4m b/d from 2005.

The report said the average price of OPEC's basket of 11 crude oils produced around the world, including sour grades, fell by $3.34 in November to $51.29/b. However, expectations of a cold winter in the northern hemisphere had led to a rise in prices to $54.44 on Dec. 15, OPEC said. It warned that prices could rise further if Europe and the US were hit by a cold spell in the coming months.

Crude oil prices fell as the week ended on Dec. 16 amid forecasts of warmer weather in the US. WTI on NYMEX fell 29 cents to $59.70/b in electronic trading. In London, February Brent shed 36 cents to $59.04/b. January Brent had closed on Dec. 15 up 25 cents at $59.85. WTI and Brent are of the light/sweet category of crude oils much in demand worldwide.

The Paris-based IEA, adviser on energy policy to 26 industrialised nations, forecast in its monthly oil market report that demand will grow at an average of 1.8m to 2m b/d through 2010 - despite record oil prices - as developing countries such as China and India burn more. It said: "Several key non-OECD oil consumers, such as China, are in a phase of rapid energy-intensive industrialisation. This should contribute to relatively robust oil product demand growth...even if prices remain high relative to historical levels".

The IEA said demand growth in 2004 of 3m b/d was the highest for a generation, taking oil markets by surprise and helping fuel a rally which has seen crude oil prices double in the past two years. The rapid demand growth through 2010 may test the global supply chain in 2007 and 2008, which will be lean years of capacity growth, the IEA said.

"In 2007-2008 we'll be treading water", said Lawrence Eagles, head of the IEA's oil market division, adding: "The supply cushion is likely to be holding constant as we see relatively strong growth during this period". The agency said non-OPEC supply growth in 2006 would rise to 1.4m b/d - from just 110,000 b/d in 2005, the lowest non-OPEC growth for six years.

This is the first time the IEA has included medium-term forecasts in its monthly report. In raising its demand forecast for 2006 to 1.79m b/d, the IEA revised its estimate up by 130,000 b/d from last month. Growth in 2005 was set to come in at around 1.18m b/d. Eagles said: "That could be unreported supply or stocks. But we suspect an element in there is unreported demand".