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IntroductionHistory, Characteristics of Crude, Uses of RefinedProducts
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History of Crude Oil
From decay of plants,
planktons and animals after
being compressed and
heated
Found in dome-shaped
geological traps
More viscous bitumen
extracted from oil seeps
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Shale vs. Oil Sands
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History of Crude Oil
Main uses of oil in history
Mortar
Waterproofing
Medicinal
Embalming
Adhesive tools
Prehistory - 1949
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History of Crude Oil
In 1859, Edwin Drake drilled America's first commercial oil well inTitusville, Pennsylvania.
In 1870, Standard Oil was founded by John D. Rockefeller with $1million incapital responsible for 90% of US refining capacity
In 1930, Saudi Arabia allowed Standard Oil to begin prospecting for oil
In 1960, OPEC formed
In 1974, oil prices quadrupled in NYSE after an oil embargo was announcedby OPEC members
1850 - Present
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Characteristics of Crude Oil
Density
American Petroleum
Institute scale: 10-70
Lower API = denser,
lower price
Measured by Baume
Hydrometer scale
Sulfur Content
Sweet Crude has less
sulfur than Sour Crude
Cheaper prices of SourCrude due to additional
processes needed to
refine oil
Forms sulfur dioxidewhen combusted
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Density and Sulfur Content
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Density and Sulfur Content - Prices
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Oil Refinery Process
3 Major Refining Processes
Separation
After Dehydrating and Desalting
Conversion
Decomposition (dividing) by thermal and catalytic cracking;
Unification (combining) through alkylation andpolymerization; and
Alteration (rearranging) with isomerization and catalyticreforming
Purification
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Oil Refinery Process - Separation
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Oil Refinery Process -
ConversionPrimary purpose to convert lower value
heavy oil to high valued petrol
Uses Fluidized Catalytic Crackers, Cokers
and Hydrocrackers
Joining carbon chains Catalytic
Reformer and Alkylation
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Oil Refinery Process -
Purification
Removal of impurities, sulfur content and separations of
aromatics and naphthenes
Sulfur causes knocking in aviation fuel and corrosion in
diesel fuel
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Oil Refinery Process - Summary
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Uses
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Supply
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MENA Saudi Arabia, Iran, UAE North America U.S.A Europe Russia & Norway
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17%
9%
21%33%
10%
10%
Daily Oil Production-Barrels
Total North America
Total S. & Cent.America
Total Europe & Eurasia
Total Middle East
Total Africa
Total Asia Pacific
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US Canada Mexico South &
Central
America
Europe Former
Soviet
Union
Middle
East
North
Africa
West
Africa
Asia
Pacific
Rest of
World
0
5000
10000
15000
20000
25000
Daily Export Volumes
1,000 barrels per day
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0
10000
20000
30000
40000
50000
60000
70000
80000
90000
0.00
20.00
40.00
60.00
80.00
100.00
120.00
198319851987198919911993199519971999200120032005200720092011
World Oil Production vs Prices
Daily Production Brent Prices Linear (Daily Production)
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Members
Production 43%
Exports 60%
Control the marketto keep prices high
Quota system
Why is it bad? Regional
Instability
Iraq-Iran
Religious conflicts
Strains on supply
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Does it work?
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Demand
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Demand
Need forEnergy
GovernmentRegulations
Geographical
DistributionType
End Use
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26%
7%
22%9%4%
32%
Daily Crude Consumption
Total North America
Total S. & Cent. America
Total Europe & Eurasia
Total Middle East
Total Africa
Total Asia Pacific
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0
10000
20000
30000
40000
50000
60000
70000
80000
90000
100000
1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Demand vs Supply
Demand supply
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Factors affecting Demand Biofuel and Electric Vehicles
Directly affects Crude use as
Gasoline
Alternative Sources of Electricity
Generation Affect Crude use as a source of fuel
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The Major Players
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The 7 Sisters
Dominated the global petroleum industry from the mid-1940s to the 1970s
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7 sisters emerged as a result of several mergers
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The new 7 sisters
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NOCs increasing clout in the
global industry
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What makes the success oil
firms?Old seven sisters which shrank to four in theindustry consolidation of the 1990s produce about10 per cent of the worlds oil and gas and hold just 3per cent of reserves. Even so, their integrated status
which means they sell not only oil and gas, but alsogasoline, diesel and petrochemicals push theirrevenues notably higher than those of the newcomers
- The Financial Times
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Importance of being vertically
integrated
Technologicaleconomies
Have longerpaths to flowacross,eventuallymanifestingas
competitiveend-products
Barriers toentry
Results inexcess profits
Raises rivals'costs
restricts theexpansion of
competitors
Security ofsupply
Takes chargeof own E&P
Security ofmarkets
Betterprediction ofthe inputprice
Moreprofitable
investmentdecision
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Vertical Integration
Ways to do so:
Enter new market on its own
e.g. a refiner opening a new retail service station
Acquiring firm that is in the secondary market
e.g. a refiner acquiring an existing service station
Entering into a long-term contract with another firm, underwhich the two firms coordinate certain aspects of their behavior
e.g. a refiner entering into an exclusive dealing contract with a retailer, whoagrees to purchase all of the retailer's gasoline from that refiner
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Introducing..The Independent Oil Traders
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Independent physical oil
traders
Physical traders that are mainly involved in
mid/downstream activities
Trend: more are starting to own upstream assets
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Overall Competitive Landscape
Key buyers: Oil refiners, petrochemical companies,independent traders
Key Suppliers: Oil exploration and production equipmentand services companies
Crude: most actively traded
commodity
Large conglomerates,
highly vertically integrated
EOS is key for successful
entry Highly fluctuating prices
and lack of differentiation
of end- product leads to
high rivalry
Substitutes: alternative
energy. But these involvehigh switching costs
incurred by buyers
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Buyers Power- Moderate
Downstream consumers
insignificant as suppliers
are highly vertically
integrated
Presence of benchmarks
kills buyer power w.r.t
prices
Buyers can switch to better
offers, but most are
restricted by LT contracts
But, Undifferentiated product
Brand loyalty insignificant
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Suppliers Power- Strong
Oil equipment & service
providers
Typically large, huge
bargaining power
But, Supplier power weakened
due to some oil majors
having own services
operations
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A Supplier-Buyer conspiracy?
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Threat of New Entrants- Weak
Complications: possible for
companies to operate in
one or more parts of the
supply chain
Presence of powerful
incumbents investingheavily + Exploration
permits= significant BTE
Usual for incumbents to
buy over small, innovative
firms (e.g. as Exxon did in
2009 when it paid $41bnincluding debt for XTO
Energy)
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Threat of Substitutes- Weak
Differentiated only by
sulfur content and specific
gravity
Petroleum has few
significant substitutes when
it comes to powering
vehicles or for
petrochemicals
With shale development,
threat of alternative fuel
wanes
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Degree of Rivalry - Strong
Diversification downstream
eases competition
But,
Different geographies, but
same business models
High fixed cost, highly
energy and labor intensive
operations:
hard to exit market
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Basis of competition for traders
Ability to unify trading operations and consolidate sources of supply
Better manage and meet customer demand while improving profitmargins
Having well-equipped storage facilities in each region
Ability to manage intricate web of cross-border income tax, valueadded tax (VAT) and customs issues.
Locating strategically
E.g. setting up multiple trading branches in various time zones across theglobe to boost margins with non-stop trading 24 hours a day.
Dynamic supply chain management: to mix and match supplies frommultiple sources, allowing for greater supply chain stability
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Global reach is key
Source: KPMG
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North Sea
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Trading StrategiesOptions, Spreads, Arbitrages
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Oil Options
Collars
Buy put Sell call, Long underlying
Capped Swap ( hedging )
Capped floating payments
Multi-Legged Options
Iron Condor, Butterfly etc.
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Oil Options
Collars
Buy put Sell call, Long underlying
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Oil Options
Collars
Buy put Sell call, Long underlying
Capped Swap ( hedging )
Capped floating payments
Multi-Legged Options
Iron Condor, Butterfly etc.
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Oil Options
Multi-Legged Options
Straddle, Strangle, Iron Condor, Butterfly etc.
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Spreads
Carrying Spreads
Long near-month contract, Short further-month contract
Crude-Product Spreads
3:2:1 Crack Spread
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3:2:1 Crack Spread
1 x Heating Oil 3.1*42 per gallon * 42
2 x Gasoline 5*42 per gallon * 42
minus 3 x Crude Oil 95 per barrel
Crack Spread 18.4 per barrel
All numbers for
illustrativepurposes only
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Factors Influencing PricingShort vs. Long Term, WTI-Brent Spread
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Short Term (10-12 months)
Bullish
Chinas expansion, along withemerging nations growth (MIST,BRICS)
Gradual recovery in Europe, reviving
the manufacturing industry
Geo-political risk in the Middle East(Algeria, Iran)
Natural gas, a viable substitute,continues to face significant exportregulations
Gain support from the increase in theequity markets
Bearish
New pipeline capacity lowers the
cost of moving midcontinent
crude oil to the Gulf Coast
refining centers. Worldwide
benchmarks will fall as USrefiners look inwards
Current glut in the markets
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WTI-Brent Spread
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WTI Properties : Sweeter and lighter than Brent,
Why is Brent the global benchmark?
Draws from large pool of resources Benchmark for
Europe, West Africa, Mediterranean
Now South East Asia
Responsiveness to global news
Why does the spread exist?
High inventory build-up at Cushing
Too many entry pipelines, too few exits
Representative of only the North American market
Result? Expect spread to increase with oil inventories at Cushing
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Long Term Present to 2020
Demand
Population and Income
growth
Global GDP Growth
Major consumers like China
Gas and Renewables as
substitutes for oil
Rising Energy Efficiency
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Supply
Shale Gas in US, China,
Australia, Brazil
Geopolitical Risk in MENA
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Done by,
Pierre Peh
Yap Rei Horng
Akshat Kukreja
Thank you