Oil May Surge to $220 (really ?)

After oil $150 and oil $300, here's another forecast, somewhere in between: oil $220:
Feb. 23 (Bloomberg) -- Oil prices may surge to $220 a barrel if political unrest in North Africa halts exports from Libya and Algeria, Nomura Holdings Inc. said.

Crude futures rose to almost $100 in New York today, the highest in more than two years, as violence in Libya threatened to disrupt exports from Africa’s third-biggest supplier. Libyan leader Muammar Qaddafi vowed yesterday to fight a growing rebellion until his “last drop of blood.” Protests in Algeria led to the ending of a 19-year state of emergency.

“If Libya and Algeria were to halt oil production together, prices could peak above $220 a barrel and OPEC spare capacity will be reduced to 2.1 million barrels a day, similar to levels seen during the Gulf war and when prices hit $147 in 2008,” the Tokyo-based bank said in a note today.
“The closest comparison is the 1990-1991 Gulf War,” during which OPEC’s spare capacity dropped to 1.8 million barrels a day and prices surged 130 percent in seven months, Nomura analysts led by Michael Lo in Hong Kong said.

Nomura said the $220 prediction may be an underestimate, as speculative investors trading crude oil who were not active in the early 1990s may amplify the price.

A surge to $220 would trigger demand destruction and a correction lower, according to Stephen Schork, president of the Schork Group Inc. in Villanova, Pennsylvania.
It is true that if production is disrupted, then supply and demand law should make the price go up. That said, there are several things to consider:
  1. Demand is not as inelastic as they seem to think. If price goes to $220, people will stop driving, airlines will not fill in their planes and will ground some flights, ships will halt, and so forth.
  2. There are massive long speculative positions on oil, and guess what? They will have to unwind at some points, and this will create a big air pocket that will cool down prices
  3. Geithner says Bernanke will save the day“The economy is in a much stronger position to handle” rising oil prices, Geithner said today during a Bloomberg Breakfast in Washington. “Central banks have a lot of experience in managing these thing
Finally, as I stated before:
Irrelevant of these points, and even more importantly, these kinds of crazy forecasts happen only in periods of extreme and irrational exuberance. It is fair to assume that two years ago, when oil dropped to $30 a baril, the supply and known reserves were about the same as today and that the fundamentals over a period of 10 years didn't change so much during these past two years to justify a price move from $30 to $300. So my opinion is that Dow 36,000 and Oil $300 and Gold $5,000 forecasts are generally made close to long standing market tops than floors. I'm thinking that oil will trade at $20 before it trades $300.

Of course, I could be wrong, but I'm very much anticipating the CFTC report this week, to find out what is happening on the speculative oil positions. This should shed some light on what is driving the market here.

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