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Demand Dropping Sharply

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The news this week is full of stories about falling oil demand. With Japan and the Euro Zone already in recession and other countries circling the drain the outlook for demand is sinking fast.

China's largest oil producer, China National Petroleum (Nyse:CEO) said fuel demand has contracted "sharply" since September because of the global credit crisis. "As the impact on China's economy deepens, the company's operations have also been adversely affected," according to a statement on the company's website. China's economy is far from a recession but it did expand at a slower pace for the fifth straight quarter ending in September. China Petroleum and Chemical, Asia's biggest refiner, will reduce crude processing by 10% in November. Diesel imports fell to a 14-month low and China International United Petroleum, the nation's largest oil trader, will halt diesel imports for a third month in November as factories shut and overseas orders shrink.

Japan's economy contracted 0.4% in the September quarter. Japan had been expected to avoid the recession and post positive growth for the quarter. This bodes ill for other developed countries and suggests the global recession is going to claim a lot more victims before it is over.

Commodity traders are betting that oil prices will sink further. Speculative short positions in crude futures outnumbered long positions by 52,984 contracts on the Nymex. Net short positions rose by 42,441 contracts, a 403% increase from a week earlier.

Analysts are now saying OPEC will have to cut at least 1.5 million barrels at the next meeting. After two weeks of claims they were going to cut again at the Cairo meeting on Nov-29th OPEC is now saying there will be no further cuts until the Dec-18th meeting in Oran. OPEC's president claims there will be no further cuts in November because the Nov-1st quota reductions have not yet been enforced. To put is bluntly, OPEC members talk a good game but they rarely follow through on the belt tightening. Despite warnings to buyers that most countries would be cutting output the actual production has only fallen about 110,000 bpd instead of the 1.8 mbpd they promised. With oil prices hovering around $55 and demand dropping like a rock they need to make a stand now or they will be facing $40 oil a month from now.

We are seeing almost daily news reports from companies and countries that are postponing oil development until prices rise again. As the impetus eases in the energy sector it means actual production gains could be slipping years into the future and once demand does return there may not be enough oil to go around. The IEA warned on falling investments and the danger of shortages 2-3 years from now if those investments were cancelled. As usual nobody is listening.

Jim Brown

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