High crude oil prices have affected demand with a lag of 9-10 months
We do not rule out a delayed impact of global crude demand due to high crude prices, we believe the same will be less pronounced as seen in the last correction, as:
(1) we are in a upward economic cycle in a high liquidity regime; and
(2) earlier demand correction was exacerbated by the financial/mortgage crisis, which is absent currently.
IEA last estimated the operable spare apacity at 4.08 mbpd. Assuming the entire Libyan production off the market, the operable spare capacity falls to 2.68 mbpd. This is again higher than the low levels of spare capacity seen in CY08. Before the Libyan crisis, the country was producing 1.58 mbpd of crude.
Historically, crude demand growth has lagged price increases. As we see in the chart below, the demand fall in OECD economies lag price increases by as much as 9-10 months.
We have chosen OECD economies, as these regions are developed and pricing of products are market linked, unlike in non-OECD economies.
Following the Libyan crisis, all of the Libyan crude capacity (1.7% of global supply) has gone off the market. However, we feel the markets remain adequately supported with the crude spare capacity still higher than the sub-2.0 mbpd levels seen in CY08.
To make our estimate more contemporary, we are, therefore, switching our benchmark to using Brent. Though the ideal benchmark would have been using Dubai crude, we use Brent crude oil as the same is traded and indicates interest of the trading community as well.
Assuming that the entire Libyan output is out of the market, OPEC spare capacity is expected to average 3.39 mbpd in CY11 and 2.46 mbpd in CY12. We believe that the crude market, which had recently spiked, has been pricing the possibility of the contagion effects of the crisis spreading to other countries, especially Saudi Arabia and Iran.
Moving to Brent as benchmark; expect Q1FY12 at USD 115/bbl
Until recently, we followed WTI crude as a benchmark. Recently, however, lower demand in the US market led to the land-locked WTI crude to get priced at a significant discount to other global benchmarks.
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