Oil is getting crushed and very fast indeed. Now consumption does not , can not change that quickly. Nor can people’s estimates of future consumption alter that fast.
Which means this is about speculative pricing unwinding in a hurry. The big banks are selling and closing their positions. Who will get the check I don’t know.
Except for one group who will and are already hurting. And that is the oil states. Remember Dubai? Well their debts and property crash have not eased. Merely gone from the news agenda. Dubai relies on oil to pay those debts and make up its losses. Oil has gone from $85 to $75 a barrel in 4 days or so. Expect more debt troubles from them.
Of course see how long it takes for you to see this price drop feed through to you at the petrol pump. That delay is someone’s profit. Just another way in which YOU are not part of the recovery.
Hi Golem,
I saw you show interest before, in pump prices vs oil prices. I work in the industry so thought I'd contribute here, and clear up what might be a few misconceptions.
First of all, oil is priced in dollars. Though we have not yet seen the high oil prices of 2008, the pound is alot weaker against the dollar since then, and this goes a long way to explaining the apparent mismatch regarding pump prices and the oil price.
Secondly, Fuel duty is now about 6 pence per litre (ppl) higher now than in 2008. Plus VAT, we pay VAT even on the fuel duty. Duty & VAT is now over 80 ppl of what you pay at the pump. Duty alone is now around 65ppl.
Most of the rest of the pump price is cost of product, the refining of it, and delivering it to the forecourt. Producing, distributing, storing, dispensing fuel, is expensive & involves alot of infrastructure and maintenance thereto.
The Retail margin on fuel averages 5 or 6 ppl through time, which is insufficient on a typical site to pay the site staff & running costs. 12 years ago, there were circa 24000 petrol stations in the UK; now there are about 11,000. This was quite simply because price competition is such, that the site economics for over half the sites, simply did not stack up.
The source of that price competition is the supermarkets, who price keenly as 'bait' to get your grocery shopping, and who change their pump price weekly. The oil companies cannot stray too far from supermarket pricing, they would lose custom. Sometimes, the oil majors actually subsidise the fuel to the customer, even for a month or more. They do this a) because they cannot determine the market pump price, and b) because sometimes it goes the other way and compensating profits are made.
This brings us back to your suspicion of foul play; there is none. Supermarkets occasionally, even routinely, price fuel as a loss leader, and the oil majors are led by the nose to track such pricing. When oil prices go up, we wait for the sluggish reaction of the supers, and bear losses till they move. When the oil price drops, we then appreciate the sluggish supermarket reaction & so make up for it on the way down. This may look like profiteering to the consumer, but it is not; it isn't a way to make 'more' money, it is in fact the only way to make any money at all.
Petrol Retailing in the UK is without a doubt, a classic case of a mature market, i.e. a dog market. Refineries in the UK are being divested, the Retail network is ever shrinking. The take on each litre to the Retailer is typically 6ppl, which is insufficient to pay for everything, and the stations rely on the shop sales to survive.
Among the site costs, are the extortionate local Rates bill, another hefty tax.
Meanwhile, the government earns 80ppl for doing sweet F.A., which you the customer pays for out of your already taxed income.
I understand consumer confusion, but believe me, Retail in the UK is a dog market, in which the big players will stick around in till the site infrastructure needs replacing, and then that site will be another closure.
It simply doesn't pay.
Byzantium,
That is the first time anyone has clearly explained the pricing of petrol to me. Thank you. I stand corrected.
My suspicions were simply focused on and by the fact that several of the big banks such as JPMorgan had leased tankers, and stored oil they had bought on the futures market.
Do you perhaps understand why they would be doing this? Is it perhaps different in the states than here.
When you say oil majors do you mean the integrated companies like Shell, BP and Exxon? Because if they do subsidise the consumer they must be doing so only at one point in their chain. I say that simply because they make such huge profits. So that subsidy must be more than off-set by hefty profits somewhere else from drilling to retail?
Anyway, as I said, thank you for taking the time to set down a few facts and keep things honest. I can now understand how the retail market is cut throat. So often comes back to the overweening power of the supermarkets doesn't it?
thanks again
Hi Golem.
"When you say oil majors do you mean the integrated companies like Shell, BP and Exxon?" Yes.
"if they do subsidise the consumer they must be doing so only at one point in their chain."
Not so much at one point in the chain, so much as with respects to intermittent periods through the year. If we have 3 months of oil price increase, the slow to react pricing of the supermarkets serves to ensure that the whole market is kept low margin, even negative margin. When the oil price recedes, or floats down over a period of months, then that is the flipside. The consumer does not notice the former, but is acutely aware of the latter, and hence consumer confusion / suspicion.
I can also confirm that the oil majors are not allowed, here in the UK, to subsidise their own retail networks with transfer pricing. They have to charge an industry wide floating price to their retail networks as a minimum. This is ostensibly to prevent tax avoidance schemes by shifting profits around. (Note however, that supermarkets are effectively subsidising their fuel whenever they see fit). This effectively means that when production and refining margins go through healthy periods, retail per se, still has to stand on its own commercial merits, within the portfolio of businesses the oil majors have.
OTOH, during periods when there is oversupply of refined product, it is useful to have your own network, so the stuff can be shifted.
Note however, that refineries are designed to produce diesel and petrol in set proportions, and refineries have to live with those decisions for 30 years or so. As a group, UK refineries failed to foresee the dramatic shift from petrol cars to diesel cars in the UK, and cannot shift production accordingly. The effect is a shortage of diesel, and an oversupply of petrol. The market for diesel therefore has to be supplemented by imported diesel, while petrol is typically exported. Sporadic shifts in the cost of imported diesel, consumer demand, underlying costs of the respective production process and refinery dynamics, is what creates the pump price distinction between diesel and petrol.
Finally, regarding the global oil price and how these bounce around, that is beyond my pay grade. Those dynamics are found behind closed doors in OPEC meetings, and in the bowels of Wall Street. The local retail markets are just little boats bobbing on the tide.
Byzantium,
Thanks again mate. Quite a few visitors read the comments so what you have written reaches people.
Its always very instructive to learn the details of a particular market.
The picture you paint is one of very tight margins.
What I want to know, therefore, is where the hard pressed oil majors reap their several billion pound profits from. Where is the profit made? From what you say it is not in retail. So where?
Sorry to keep asking questions but I am sure I am not alone here in being interested in these questions and in what you have to say.
post 1 of 2:
They make their money from producing the stuff.
Within the industry, we talk of 'upstream' and 'downstream.'
Production is upstream; once it gets to any kind of refining process, it is downstream from there. The billions that you read of, are made upstream.
The costs of production are what they are; they are relatively flat, and specific to each oilfield, but on an upward trend. All the low lying fruit has been picked. Oil from Saudi is onshore and dirt cheap, but now we are are having to go deep offshore to get the newer stuff.
For day to day volatility in the oil market price, look to the machinations of OPEC and Wall St.
Of course when the price goes up, the oil companies benefit. But again, they have no influence on that price as far as I am aware. They collectively control less than 10% of the world's oil. Sovereign states control the rest, and then the markets do their games.
BP will be unable to reclaim its clean up costs from the gulf, from any ability to rig the market price. The industry-wide production cost might go up however, due to the spill, by production processes now needing to incorporate higher standards of safety.
And what is the market?
I do not assert on THAT topic, because I only pick up snippets by default. But let us clear away some notion of some central marketplace, like a 'cattle market,' where ALL oil is up for bidding and goes to the highest bidder. Most global oil flows are private contracts between sovereign states, according to their own negotiation, for a period of time.
If you are Russia, with a pipeline to China and a pipeline to Europe and a deepwater port in the Baltics, the the reality is that there might be several existing contracts with China of variable duration, which are immune to today's market oil price.
When those Russia to China contracts individually come up for renewal, then most are likely to be renewed regardless the market price; the infrastructure is there. The pipeline is where you left it, it ain't moving. It starts in a particular oilfield, it ends at the customer. The oil Russia produces for Europe & for tankering by ship, are from different fields, closer to the customer.
post 2 of 2:
Note too that oil is NOT homogenous. There are many different grades, and each grade has its own market. Therefore, the heavy tarry stuff coming out of Venezuela, goes to purpose built refineries in Texas that were built to refine heavy oil, from Venezuela. If the Texans and Venezuelans fall out, then they can't just swap for any old customer, or any old supplier; the Venezuelans can only sell to a customer with the right kind of refinery. Effectively, customer and supplier are typically in long term stable relationships.
IN OTHER WORDS, most oil supply and transcation, flows according to a recurrent pattern, that in the short term is not affected by the notional global price. I have a chart somewhere of who supplies whom in what proportion, but not to hand, and not in a form that I can post here.
That volume that has not been pre-booked, is a small proportion, and constitutes what we know of as 'the marketplace.' If there is a sudden shortage, it will be those customers who habitually buy on the spot market, that will suffer the enormous spike in price. Much of the world's oil will flow according to pre-agreed prices.
For reasons that I do not know, all oil purchased by UK refineries, is to contracts that reflect that days 'market price.' It is that way, it does not have to be that way.
Such an arrangement brings risk for both parties; oil price up, producer profits up (and cost to consumer is up). Oil price down, producer profit is down, and cost to consumer is down.
If the UK market was to flip to fixed price 3 year supply contracts, and the global oil price went down, then everybody would complain of a stitch up, yes? !!!!!
If some oil companies went for fixed price supply, and others continued the floating price mechanism, then the resultant effect would be that one or the other would quickly get a pricing advantage in the local market (we don't know which way round it would be) and put the other's downstream business out of business.
Thats all I want to say on the oil industry, it is a complex beast.
Were it not for taxes of the UK government, your petrol would be 30 ppl right now. Even as it is, it is no more expensive per litre than bottled water from the shop.
The profits made from upstream, which appears to be exorbitant, is actually insufficient in aggregate, and not reliable enough in flow, to fund ongoing exploration and investment needs. The oil majors go through bouts where they have to borrow huge money on the capital markets, as the home kitty is periodically insufficient.
It takes a hell of an upfront investment to develop drilling infrastructure in a new and hazardous location. It can take decades to get the return. Taxing the oil majors too high, basically eliminates western companies from the global oil game.
Oh yeah, I forgot the worst part, for the oil majors;
The engineering talent is an ageing one. The salaries were insufficient to make it an attractive career.
Oil extraction is getting harder and more complex. Finding the necessary personnel and expertise, is a real headache now.
In the end, alot of tasks are subcontracted.
That carries its own perils, just look at the spill in the Gulf now.
Byzantium,
Thank you!
Golem XIV