Many of us associate oil with transportation, heating (used as fuel oil in furnaces for heating homes) and electricity (diesel generators). But oil is more ubiquitous than that. Oil is also used to make plastics, synthetic materials, chemical products, personal hygiene goods and asphalt. And then there is the assortment of everyday items that contain oil products, such as nylon, polyester, acrylic, and spandex cloths, soap, shampoo, detergents, toothpaste and more.
Crude oil is not consumed in its natural form. Instead, it is sent to refineries where it is separated into petroleum products. Gasoline, distillate (diesel, heating oil) and jet fuel are well-known petroleum products; lesser-known ones include hydrocarbon gas liquids (HGLs), naphtha and petrochemical feedstocks.
Crude oil comes in a variety of forms and qualities. It ranges from almost water-like fluids to black viscous semi-solids. The market value of an individual crude stream depends on its density and sulfur content. Crude oil can be categorized as sweet or sour and its viscosity ranges from light to heavy. Crude oil that is light (lower density) and sweet (low sulfur content) is usually more expensive than crude that is heavy and sour. This is because light crude "produces" more gasoline and diesel/gasoil, which typically sells at a premium to other oil products. Sweet oil can be also processed more easily in refineries. Removal of sulfur and other contaminants from sour crude oil requires sophisticated refining hardware and energy-intensive processes compared to sweet crude.
As oil is easily transportable and storable, the market for crude and petroleum products is global in nature. Two of the most significant crude pricing benchmarks are Brent and West Texas Intermediate (WTI). Brent is a waterborne crude and includes five separate light and sweet North Sea crude grades: Brent and Forties from the UK, and Ekofisk, Oseberg and Troll from Norway. As a waterborne crude, it can be put on a tanker and shipped anywhere. WTI is a bit sweeter and lighter than Brent. WTI crude is produced in the United States. A portion of this production is sent directly to US refineries. Much of the remaining supply is shipped via pipeline for storage at the US oil trading hub in Cushing, Oklahoma. Production of WTI has risen sharply in the past five years, saturating demand in the US and causing regional supply gluts. Operators are developing crude and product export facilities along the Gulf Coast, and pipeline capacity from Cushing to the Gulf Coast has risen. Still, a portion of WTI supply remains landlocked.
The largest oil producers in the world are the US, Saudi Arabia and Russia, accounting for about 40% of oil production in 2020. The 15 largest producers accounted for about 78% of total supply in 2020. On the supply side, the Organization of Petroleum Exporting Countries (OPEC) and its allies (OPEC+) are important players. Motivated by the recent extreme volatility in oil prices, the OPEC+ group has been meeting regularly to assess the global oil supply and demand balance with a stated intention of adjusting production to promote stable oil markets.
OPEC+ consists of 24 countries, including 13 OPEC members and 11 non-OPEC members. Their production share was about 43% in 2020. Of the three largest oil producers, Saudi Arabia and Russia are members of the group. What currently distinguishes the group from other oil producers is that several OPEC+ members are not producing at full capacity. As the world's "swing" producers, they are willing to turn the production tap on and off to keep the oil market in balance. Low demand caused by pandemic-related restrictions has led to increased spare production capacity within OPEC+. Outside of OPEC+, companies seek to maximize their profits and thus always produce at maximum capacity as long oil trades above their production costs.
The US is the biggest oil consumer, accounting for over a fifth of the world's consumption. China is next with a 15% share, followed by India, Russia and Japan. The top five consumer countries accounted for nearly half of total oil demand in 2020 and the 15 largest claimed over threequarters.
Breaking down global oil consumption by sector, road transportation accounted for just less than half of total demand (passenger vehicles 25%, road freight 17%) in 2019. If we then add in airplanes (8%) and ships (5%), transportation accounts for a little more than half of the total demand. The rest comes from the petrochemical sectors (12%), followed by buildings (8%), industry (6%), power generation (5%) and other uses (14%).
Our daily lives are highly dependent on an uninterrupted supply of energy. Demand for energy has grown strongly over the years, and yet our thirst for it increases day by day. The concept of supply and demand is fairly straightforward. As demand increases (or supply decreases) the price should go up. As demand decreases (or supply increases) the price should go down. Oil prices, like almost everything, are subject to those basic economic rules.
And with oil demand benefiting from gas-to-oil switching this winter, the likely end of OECD releases of strategic oil reserves and the European ban on waterborne Russian crude imports coming into force on 5 December amid lower OPEC+ crude production, UBS currently expects the oil market to tighten further. As such, UBS continues to expect the price of Brent to move above the USD 100/bbl mark over the coming quarters.
For more on Crude oil, Natural gas and Coal, see Introduction to energy: Understanding commodities, 26 May, 2021.
