Financial Market Failures Lead To 4% Drop In Crude Oil Prices

Quotes from Upstream Online:

Oil fell more than 4% today on rising concern that turmoil in global financial markets will further undermine fuel demand and send investors into safer havens.

In other words, in a risky financial market oil futures may carry too much excess risk for many investors.  The supply/demand of oil is so tightly constrained that small perturbations, like a hurricane or stock market woes, can have large non-linear effects on the oil markets, leading to large and wildly unpredictable price swings.

Reports that US oil infrastructure had escaped major damage from Hurricane Ike also weighed on markets, which fell more than $5 on Monday after Lehman Brothers sought bankruptcy protection.

US crude traded down $3.96 to $91.75 a barrel by 1355 GMT, just off a seven-month low of $90.55 a barrel earlier. Brent crude fell $4.30 to $89.94 a barrel.

“If the economic turmoil continues, demand will continue to drop,” Jonathan Kornafel, Asia director at US-based options trader Hudson Capital Energy, told Reuters. “It’s a bit of panic in the markets.”

Slowing demand in the US and other top consumer nations has sent crude prices tumbling from record highs over $147 a barrel in July.

I don’t know about foreign markets, but US demand slowed by only a few percentage points, which contributed to a price drop of over $40/barrel.

Monday marked the worst day on Wall Street since markets reopened after the September 11 attacks, with investors fleeing to safer havens such as gold after the news on Lehman and the sale of Merrill Lynch.

Growing problems at insurer American International Group added to fears about the financial sector’s stability and the outlook for the global economy.

“If AIG tanks, that will be the big one. AIG has more to do with the oil price right now than the Saudis do,” said Larry Grace, an analyst at Kim Eng Securities in Hong Kong.

Interesting quote… remember that for future reference.  The availability of capital is a major driving force in several areas of the oil market.

European shares fell today amid concerns AIG could be the next financial giant to tumble, driving up the yen and government bonds.

Federal Reserve policy-makers are expected to stop short of lowering US interest rates at a meeting today but could signal readiness to cut them quickly if needed to protect the economy from one of the most serious financial crises in decades.

Further pressure on prices came on expectations a large part of US energy production shut by Hurricane Ike would restart within a week as reports showed the storm caused only minor damage to oil platforms and refineries.

Fuel supply disruptions are still possible in the meantime, as the shutdowns cut already threadbare gasoline inventories to their lowest levels on record, sending pump prices spiking.

The oil price fell despite renewed concern about supply in Nigeria, where militants attacked a Shell oil pipeline and Chevron-operated oilfield, militants and security sources said.

This is another potential straw that could break our backs.  Nigeria supplies roughly 12% of our oil, and our imports from there are increasing annually (see here or here for a breakout of where our imported oil comes from).  The civil war in the Niger Delta has been heating up.  Rebels, who want a more equitable share of the oil revenues, have recently blown up several pipelines and conducted piracy against offshore oil production platforms and their associated supply vessels.

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