As featured on The Huffington Post:
In the real-time commodity market, where commodities are traded as actual physical products, whereby title is taken, financed, shipped and consumed, it has been received wisdom that cartels seeking to impact the price and distribution of a given commodity, that commodity needed to be either in short or near balanced supply. Further the players had to have the economic and political viability to adhere to the production/sale quotas assigned to them by the ‘cartel.’ This was at great variance to the paper maché commodity markets of today, whereby commodities such as oil are traded at levels that are purported to be a hands-off reflection of ‘supply and demand.’ Yet when it comes to oil, the accumulated fictions that have lent themselves to ever higher oil prices on the commodity exchanges without a true demand/supply discipline, are now coming to an end as evidenced by OPEC’s inability to prop up the current quoted exchange prices. The real world is taking over.
With the advent of the enormous quantities of U.S. shale oil, with the U.S. destined to become the world’s largest oil producer in three or four years — oil which we had been instructed to believe was, and would forever be in short supply and at its ‘peak’ production — the equation of supply to actual demand has changed so dramatically that even the world of hedge funds, the oil companies themselves, the sovereign wealth funds, the bank trading desks, etc. playing the commodity exchanges together with the political bombast emanating from the capitals of the world’s oil producers, can no longer hide the fact that oil today is in serious oversupply harkening back to the days in the 1980′s and at the turn of the century when oil was trading near $10 a barrel. The difference then and now is that Saudi Arabia alone with its vast production and reserves and its influence among its OPEC brethren was able to change the equation by cutting back its output and bringing other OPEC members in line.
With the advent of U.S. shale oil, and non-OPEC production elsewhere in the world, this is no longer a viable option for Saudi Arabia without ceding most of its market share to others who are desperate for oil income to meet their national budgets (viz Venezuela, Iran, Iraq and on). Significantly, the United States oil producers are prohibited by anti-trust law to conspire with offshore producers to control markets and price so that even if they were able to organize themselves, they would be prohibited by law from joining or cooperating with an OPEC-like entity.
Without enormous discipline in a vastly oversupplied market an OPEC as constituted today is no longer viable. From personal experience some decades ago as a commodities trader there was (still is) the sulphur market. That market was controlled by a Webb-Pomerene Association (an American law at the time permitting American producers to cooperate in export markets) called SULEXCO or the Sulphur Export Corporation, an amalgam of the then Freeport Sulphur Company, the Texas Gulf Sulphur Company and a few smaller players. These companies produced sulphur via the Frasch Process from reserves in Texas and the U.S. Gulf Coast. They controlled the world sulphur market, set world prices and determined its availability. Sulphur is a key component of chemical, chemical fertilizer and industrial processes as in sulfuric acid.
From my personal trading days I witnessed the evaporation of the SULEXCO cartel. Then, in Western Canada in the ’60s, a new source of sulphur evolved. Well, not exactly. Reservoirs of sour natural gas were discovered in Alberta, a vast treasure of natural gas if it could be moved to markets.
The drawback was the ‘sour’ gas was combined with Hydrogen Sulfide, a toxic element, that had to be removed before the gas could be transported. For you who remember your chemistry class hydrogen sulfide’s chemical symbol is H2S. It was the ‘S’ (as in ‘sulphur’) in the H2S that became the key. A process was put in place to strip the sour gas of its H2S and in turn break it down into hydrogen and sulphur. Before very long vast stockpiles of ‘recovered’ sulphur were building up on the plains of Alberta, Canada. A sulphur storage and loading terminal was built in Vancouver and 100 car train loads of sulphur were being railed from Alberta to Vancouver, to be loaded on board ships destined for world markets from Asia, to Europe, to Africa. The onslaught of competition from the new suppliers was staggering to SULEXCO. First their ability to determine price disappeared, and then they eventually disappeared as well.
This is not to say that the OPEC producers will disappear, but certainly their ability to control price on the real physical market is now in play. There is the caveat of the paper maché oil basrrels being traded on the commodity exchanges, but one can well imagine this too will bend with the onslaught of market reality.