EME 801
Energy Markets, Policy, and Regulation

Introduction to Global Markets for Crude Oil


Introduction to Global Markets for Crude Oil

Crude oil is one of the most economically mature commodity markets in the world. Even though most crude oil is produced by a relatively small number of companies, and often in remote locations that are very far from the point of consumption, trade in crude oil is robust and global in nature. Nearly 80% of international crude oil transactions involve delivery via waterway in supertankers. Oil traders are able to quickly redirect transactions towards markets where prices are higher.

Global supply and demand determines prices for fossil fuels. Events around the world can affect our prices at home for oil-based energy such as gasoline, heating oil and natural gas. Political unrest in some oil-producing nations also contributes to high prices - basically, there is a fear that political instability could shut down oil production in these countries. OPEC, the large oil-producing cartel, does have some ability to influence world prices, but OPEC's influence in the world oil market is shrinking rapidly as new supplies in non-OPEC countries are discovered and developed.

Our discussion of the world market for crude oil will be broken into a few sections. We will first focus on what's called the "spot" and "forward" market for crude oil. The term "spot market" generally refers to a short-term commodity transaction where the physical commodity changes hands very soon after the seller receives payment. Most retail consumer purchases are examples of spot transactions. When I buy a newspaper at the convenience store or a slice of pizza at the pizza shop, I get the product right after I pay for it. Forward markets refer to contracts where buyers and sellers agree up-front on a price for a commodity that will be delivered at some point in the future. When I subscribe to the newspaper and have it delivered to my house every day, I am signing a type of forward contract with the newspaper company. When I call the pizza shop and ask them to deliver a pizza to my house one hour or one day from now, then I am also engaging in a type of forward contract.

We will also discuss "futures" markets for crude oil. The difference between futures and forward markets can be confusing at times. The primary difference is that a futures contract is a highly standardized commodity sold through a financial exchange, rather than a highly customizable contract bought and sold through one-on-one transactions. Futures markets do have the advantage that they have been able to attract many more buyers and sellers than forward markets.

Finally, we will spend time in this lesson learning where to find data on global oil markets and discussing the issue of "peak oil" - whether world oil reserves are dwindling or whether there is actually enough to support rising oil consumption over the coming decades. There is more data on the web than you might think, but the difficulty is in knowing where to find exactly what you are looking for.