Gaddafi’s downfall alone will not slash oil prices

WHILE there are those who will be watching the news in Libya and see it as a tipping point for oil prices, any substantial cheapness will not come straight away. Events in Tripoli triggered some reactionary selling of Brent crude yesterday, but the road to a return of Libyan oil could be a long one.

“I am seeing figures of two years to get back to normal production of 1.6m barrels per day production, 1 year to reach 1m barrels per day and three to four months to up it by 3-400,000 barrels per day,” says Ian O’Sullivan, head of sales at SpreadCo. “The impact on oil won’t be sudden and dramatic.”

This does, of course, all depend on the state of the Libyan oil infrastructure following months of civil war. “If everything is still in one piece, then Libya could come back online in two weeks,” says Yusuf Heusen at IG Markets. For this reason, he cautions against diving straight into a position on oil prices. Rather, traders should wait until the dust settles, and the state of Libya’s infrastructure is more clear.

And while the events in Libya will be grabbing the headlines in the coming days, it is also important to bear in mind its relatively lowly position in the oil-producing food-chain. “Libya was and is a small cog in the world oil output machine – 1.6m barrels or just 2 per cent of world output,” says Michael van Dulken, head of research for Accendo markets. He says that the real driver for oil price will be global demand, and weak macro data points to a downturn.

As major oil consuming economies such as the US show little sign of economic up-turn, oil production may well be reduced. As well as decisions made by oil-producing big beasts such as Saudi Arabia, intergovernmental organisations will also have a big say. Should oil prices drop, it is likely that Opec will step in to lower oil supply in order to prevent a slump in oil prices. When global demand dropped at the height of the 2008 recession, oil prices plummeted, and the oil cartel are likely to be quicker at stepping in this time around to prevent a repeat performance (see chart, above).

PLAYING THE SPREAD
Any movements in Libya are more likely to affect Brent prices than US light crude or Nymex due to Libyan oil being closer in quality to Brent. For this reason, traders could stand to benefit from playing the spread between the two – going short one and long the other.

With an unpredictable market ahead for oil, you should carefully consider when you enter the market rather than simply getting caught up in the news headlines, and have a quick exit strategy in case the market turns.