With crude prices touching a record $66 (U.S.) a barrel Thursday, Citigroup Global Markets raised its oil price targets, saying the oil market has stopped taking its pricing cue from inventories and is focusing on short-term capacity levels.
Citigroup analysts maintain that a major shift has taken place in oil market dynamics. Namely, they believe that “the well-established relationship between global inventories and oil prices has been superseded by a capacity-driven market, but with a limited frame of reference to draw any firm conclusions over where oil prices go next.”
On Wednesday, the price of oil closed at its highest level yet, despite U.S. government data that showed crude inventories grew by 2.8 million barrels last week to 320.8 million barrels, or 10 per cent above year-ago levels, countering expectations for a decline.
Meanwhile, the International Energy Agency lowered its 2005 estimate for global oil demand Thursday. The Paris-based agency said that oil demand this year will be 150,000 barrels a day less then it expected, as China's oil demand continues to show signs of weakening. Nevertheless, it expects world oil demand will grow this year by 1.6 million barrels a day to 83.7 million barrels a day.
Crude oil's record-setting climb carried on into Thursday, with futures for September delivery jumping to a record intraday high $66 on the New York Mercantile Exchange. The contract closed up 90 cents at $65.80 a barrel. Prices have soared 45 per cent from a year ago.
Gasoline futures also rose to a record high of $1.955 a gallon on the Nymex.
Citigroup estimates that current global spare capacity is around 2 per cent of demand, compared with a 5-per-cent average that has existed for most of the past 10 years.
Although oil supplies currently exceed demand and inventories are rising, the oil market remains tight, the Citigroup report said. “With OPEC seemingly helpless, the oil market has succumbed to the omnipresent risk of supply disruption.”
The oil squeeze has eroded a long-standing capacity surplus, and there is little sense of when things will return to normal. Citigroup said it expects capacity constraints will ease over the next few years, but are unlikely to return to “normal levels” until at least 2008.
The brokerage raised its West Texas Intermediate crude oil price target to $60 a barrel from $50 in the third quarter and to $60 from $47 a barrel in the fourth quarter. It hiked crude targets for each of 2005, 2006, 2007, 2008 and 2009.
“Until some kind of normality is restored, oil price expectations remain more subjective than ever, and with volatility skewed on the upside,” Citigroup said.
The Citigroup analysts also said they believe that the “perceived floor deemed sustainable by OPEC” has moved higher, with anecdotal evidence suggesting the range has risen to between $40 and $50 a barrel.
Ministers of the Organization of Petroleum Exporting Countries agreed to officially set aside their old $22-$28 range for the basket, set in March, 2000, early this year, but have not set a new target.
OPEC is enjoying record sales, while witnessing a global economy that has not faltered under soaring crude costs, Citigroup said. With global economic growth holding steady at a time when oil prices are above $60 a barrel, Citigroup said there could be an increased tolerance for oil at $45 a barrel.
“The longer oil prices stay above $60 the more reasonable 40-something will look,” the report said. “While near-term the cartel appears incapable of lowering oil prices, this will undoubtedly harden its resolve on the level that may ultimately prove sustainable.”
Citigroup said valuations in the U.S. oil sector have lagged crude's rise. The analysts believe the sector is “discounting” $38 a barrel crude, leaving it with 25-per-cent more room to rise.
In the near term, they favour Amerada Hess Corp. and Chevron Corp. and in the long term, Exxon Mobil Corp. and Marathon Oil Co.
