first majestic silver

Saddam-ized: Iraqi Crude Oil

CPA, Principal & Co-Founder of Zeal LLC
January 12, 2001

In the six years since the Internet has really taken off and begun to grow popular amongst the general populace, there has been a mighty explosion in the amount of information available. Humanity has barely taken its first collective wobbling steps into the vast new horizons of the Information Age. No one alive right now can even imagine the ultimate potential that will be achieved through this information revolution, just as only a century ago no one could have conceived of what our world and lives would be like in 2001.

With access to virtually infinite information, we are also being exposed to continual deluges of misinformation. One of the most puzzling paradoxes of the early Information Age is that it seems like the more information and raw data we humans have access to, the less "informed" we communally become. In the midst of a furious white-out blizzard of bits and bytes, it is more and more difficult to burn the dross away from the true golden data.

Fortunately for traders, the rampant general apathy and lack of understanding of current events extends to the world markets. When good information is overlooked and false information becomes baked into asset prices, valuation anomalies are created. These anomalies represent tremendous trading opportunities, as sooner or later the ultimate fundamentals, either cashflow or supply and demand realities, will prevail and the asset price will be revalued to its proper market clearing level.

While we were monitoring geopolitical and market events in December 2000, a very interesting anomaly bubbled to the surface in the crude oil markets. This apparent miscalculation by the supposedly efficient markets may have created another outstanding trading opportunity. This essay outlines the stunning events in Iraq, OPEC, and the general crude oil markets in the first three weeks of December 2000.

As a baseline for our journey, it is important to review the crude oil price action in and surrounding December 2000. The graph below outlines the crude oil price as denominated in the crude oil near future contract (whatever futures contract is the closest to expiring at any given time). The red columns in the middle outline the primary temporal period of interest of this essay, December 1-22, 2000…

As is apparent from the graph above, crude oil was utterly vanquished in December. It was beaten up in some dark back-alley of the global markets and left for dead, barely gasping for life. From November 27 to December 20, crude oil had a rapid and stomach-churning 27.2% plunge into the abyss. The markets had spoken, and crude had apparently been weighed in the balance and found wanting.

In free markets, the price of anything is determined by the intersection of supply and demand. Ultimately, any asset gradually gravitates to a value where demand for that asset exactly meets supply at a particular price. Fundamentally, in order for the price of an asset like crude oil to drop, there are only a couple normal possibilities that should lead to this result.

First, demand can drop. If demand falls and supply remains constant, there is a temporary oversupply of oil and prices fall. Incidentally, by all accounts, crude oil worldwide consumption demand was high in December. Crude oil demand was higher year over year by at least 2.6m bpd and growing globally at a relentless rate. November and December 2000 ended up being the coldest last two months of the year on record in the US, further boosting normal demand. Even if the US and first world are plunging into the rapidly approaching recession, crude oil demand will still rise, although more slowly than normal. For many reasons, a drop in crude demand did not happen and does not explain the December knifing of crude oil.

Second, supply can rise. If supply rises and demand is constant, oil prices will fall. In December, as we will outline in this essay, world crude oil supplies fell dramatically as Iraq suspended exports. By all accounts, the global crude oil supply that hit the world export markets was significantly smaller in December than in the months leading up to it. A drop in crude oil supplied should have caused the oil price to RISE in December, not implode.

Finally, prices can "choose" not to follow fundamentals for short periods of time. This can be the result of excessive speculation, official or private manipulation, or atypical market sentiment. December crude oil prices are an almost textbook example of prices not following the fundamentals!

In the complex and far-reaching global crude markets, the center of the universe in late November and December was Iraq. A modern fiefdom run by de facto King Saddam Hussein and his fun-loving criminal cronies, the nation straddling the cradle of civilization in ancient Mesopotamia is endlessly fascinating.

Iraq is the fourth largest oil producing nation in the Organization of Petroleum Exporting Countries, exporting 2.4m barrels per day (bpd), after Saudi Arabia (8.7m bpd), Iran (3.7m bpd), and Venezuela (2.9m bpd). Iraq controls a whopping 10% of the world's known crude oil reserves and produces 5% of the total global exports. Of the 2.4m bpd of Iraqi crude, typically about 750k bpd is loaded on supertankers destined for US shores, accounting for roughly 9% of total US oil imports.

Through the vagaries of ancient geologic history, Iraq has been blessed with some of the most highly sought-after crude oil on the planet. Iraqi crude is generally light sweet, indicating an optimum refining weight and a desirably low sulfur content. All things being equal, most of the world's oil refineries prefer light sweet crude over heavier grades with more sulfur that has to be removed. High sulfur content adds to both the complexity and cost of refining oil. Some refineries in certain countries do not even yet have the technical capability to crack heavier crude into important distillates like gasoline and heating oil. As Iraqi crude is very high quality, this magnifies the importance of its exports to the world petroleum markets.

Iraq exports through two primary ports, although a third pipeline to Syria was recently re-opened in violation of United Nations sanctions. For US and European exports, the primary loading point for Iraqi crude oil is in Ceyhan, Turkey.

The Iraqi-Turkish export pipeline follows captivating historical geography. It crosses the Iraqi-Turkish border in northern Iraq and snakes along the ancient and revered Euphrates river. The Euphrates, along with the Tigris to the east, provided some of the most fertile and lusted-after land in the ancient world. With headwaters in Syria, the Euphrates meanders through Iraq on its way to the Persian Gulf, passing directly through the site of the ancient capital city of the Babylonian Empire, Babylon, 60 miles south of modern-day Baghdad.

In Turkey, the pipeline runs through a striking mountain valley which eventually opens up into beautiful foothills and broad plains on the southern edge of Anatolia. The pipeline terminates at a lifting port near the city of Ceyhan, on the very northeast corner of the Mediterranean Sea. Ceyhan is only fifty miles east of the ancient city of Tarsus, hometown of the famous early Christian evangelist Paul (formerly Saul of Tarsus).

The western nations use this Turkish port to load Iraqi crude because it eliminates the need for supertankers to steam all the way around the Arabian Peninsula. It costs a lot of extra time and money for tankers to make a round trip through the Suez Canal, along the face of Africa through the Red Sea, through the Gulf of Aden (where the USS Cole was bombed last autumn), around Oman, through the Strait of Hormuz, and finally into the Persian Gulf. This trip is over three thousand miles each way and would seriously cut into profits of tankers bound for the West. The Turkish pipeline and Ceyhan port have an effective capacity of roughly 1.2m bpd.

Further south, there is another pipeline that runs west out of Iraq into Syria. Although this is supposed to be shut down due to US/UN sanctions, oil has recently begun to flow through the pipeline to Syria. Many analysts believe that up to 200k bpd of oil is flowing through this pipeline. Reports out of Syria have suggested that the country has obtained a sweetheart deal from Iraq, possibly paying prices as low as US$10 per barrel for the Iraqi crude oil. The Syrian government led by young President (read King for Life or until assassinated) Bashar Assad has officially denied to the Clinton Administration that the pipeline is in use, but Syrian crude oil exports were mysteriously running 20% higher than normal in December. The Iraqi oil is used for Syrian internal refining purposes, and a comparable amount of native Syrian crude is freed up for sale in the world markets. Assad desperately needs this source of revenue to implement needed social programs, and Saddam Hussein is likely getting cash on the sly deposited into a non-UN controlled bank account for the transaction. Since Syrian crude exports were so incredibly high, we believe that oil was flowing through this pipeline throughout the December Iraqi oil embargo.

The second primary port for Iraq's crude oil exports is the Iraqi port of Mina al-Bakr on the Persian Gulf. Near the convergence and delta of the legendary Tigris and Euphrates rivers, this is the port of choice for supertankers bound for Asia. The primary Iraqi customers typically using this port include India, China, and Japan. Prior to December, it is believed that Iraq was exporting about 1m bpd through the Mina al-Bakr port.

The map below shows these Iraqi crude oil export pipelines. The location of major oil fields and refineries is also noted.

Armed with this background information, we are ready to dive into the perplexing crude oil market of the first three weeks of December 2000. While reading the following narrative, recall that crude oil plummeted over 27% surrounding these potentially explosive Iraqi events…

December 1. Following much international talk and apprehension, Saddam Hussein's Iraqi government slammed shut the crude oil export spigots. Iraq's State Oil Marketing Organization (SOMO) had insisted that buyers of crude must pay a $0.50 per barrel surcharge above the market price directly into an Iraqi bank account out of UN control. Oil transport companies said they would not pay the surcharge because it violated UN sanctions, and Iraq turned away empty tankers at anchor near both the Mediterranean and Gulf ports.

A Japanese company confirmed its chartered tankers were turned away from Mina al-Bakr. The company estimated that it cost US$70k per day per tanker when the ships cannot haul oil. The Asian tankers were seeking other ports after Iraq showed them the door, but Asian officials expressed concern that they would not have prime Iraqi light sweet crude available.

Iraq broadcast the following statement over Iraqi radio, "Let the bad ones be accursed. Ever since Iraq and the United Nations reached the so-called agreement on oil for food, medicine, and other basic needs, the pricing of oil presented by Iraq has been adopted without any objection by international observers and the ill-reputed [UN] Committee 661… Therefore, the Americans and Britons in Committee 661 are responsible for any negative effects for not raising the oil price and for the buyers' refraining from buying Iraq's oil because the Committee did not approve the price. And their bad action will rebound on them. In order to abort all the pretexts of the evil ones, … Iraq, which is determined to not relinquish its rights, will adhere to its stand. Let the bad ones be accursed." Too bad the Iraqis couldn't tell the world how they REALLY felt!

US Secretary of Energy Bill Richardson, never missing an opportunity to attempt to jawbone and manipulate world markets, made a statement that the US could tap the Strategic Petroleum Reserve (AGAIN) if necessary, and the Paris-based International Energy Agency said its 24 member countries could also dig into their own respective oil reserves. US National Security Council Spokesman PJ Crowley said, "We are working with the International Energy Agency members and major oil producers on an oil resupply, which, if needed, would more than compensate for the oil volumes which Iraq is threatening to withdraw from the world market. This could include drawdowns from strategic petroleum stocks as appropriate."

In a sidenote, this is typical behavior of socialist bureaucrats. The free market solution for Iraqi machinations is simple and elegant. If Western governments stopped trying to talk down oil prices and convince their citizens that the high prices are fleeting, much more drilling would be undertaken in the west. The high oil prices would eventually yield much higher US and western production, which would reduce future world dependency on Islamic oil. Instead of letting the free markets work to neutralize the ever-present OPEC threat, western governments take the counterproductive socialist track of attempting to manipulate the oil prices back down rather than letting the free market solve the problem once and for all.

The House of Sa'ud, not wanting to be upstaged by Saddam Hussein, immediately leapt into the fray. Saudi Arabian Oil Minister Ali Naimi, "Our goal is to isolate any non-economic effects from the oil trade, to maintain its continuity as the main energy source, and to encourage international demand for it year after year." Industry analysts claimed the Saudis could only make up 600k to 900k bpd of the Iraqi shortfall in the short-term, and the Kingdom would require 90 days to work up to 1.8m marginal bpd. Saudi Arabia controls virtually all the spare oil production capacity of the OPEC cartel. Unfortunately, those promised new Saudi supplies will not reach US refineries until May or June of 2001, when winter is over. Even western hemisphere OPEC country Venezuela could not help supply the vanished Iraqi crude as the market is saturated with its lower quality heavy crude oil.

On Friday December 1, 2000, a whopping 5% of the total world crude export market suddenly disappeared. Supply shrunk dramatically. And what happened to the crude oil price? It plummeted over 5.3% on the news! The plot thickens…

December 3. Iraqi Oil Minister Amer Mohammed Rashid hosted a news conference and said, "The Iraqi oil policy has been always aimed at stability of the world oil market. Iraq has absolutely no intention to terminate or hinder the exports of its crude in the world market." Really? The western media reported exports would be resuming December 4, but a few hours later the "deal" fell through and the negotiations were back to square one. This was a Sunday, but crude oil fell another 2.5% the following day.

December 5. Iraqi Representative Saeed Hasan, "Iraq's president will issue a decree or act concerning countries that consider themselves at war with Iraq. Those that bomb Iraq." The only nations bombing Iraq on an almost daily basis are the United States and Great Britain, and Saddam Hussein was to make a statement banning oil sales to these hostile countries. Iraqi Oil Minister Rashid backtracked on this shortly after, and said that Iraq would stick to December pricing proposals. Iraq was in a position where it had to keep the oil issue on the collective global mind. The worse thing for Iraq at this point would have been if the international community had begun to ignore Iraq.

A little later in the day, Iraqi vacillation continued with Trade Minister Mohammed Mehdi Saleh confirming that once exports restarted, sales to the United States would be banned. The US media was strangely totally silent on this issue as the US election fiasco monopolized the airtime in the States. Iraqi crude exports (with the exception of the small illegal Syrian shipments) had been shut down for five days. The price of crude curiously dived another 5.4%.

December 6. Iraqi exports were still suspended, and American Petroleum Institute oil inventory reports showed a huge unexpected decline in crude inventories in the United States. The US Energy Information Administration reported, "Surplus oil production capacity is at its lowest level during a non-disruption period over the past three decades…" They estimated total OPEC surplus production at less than 2m bpd. Iraq reportedly abandoned its $0.50 surcharge. Crude oil had a slight 1% rally.

December 7. The UN approved a new Iraqi pricing proposal, but no shipments resumed. Crude oil fell 1.7%.

December 8. Iraqi oil exports showed no signs of resuming. No tankers were preparing to load at Mina al-Bakr and no vessels were even seen near Ceyhan. Supply continued to drop, and crude oil fell another 3% on the day?!?

December 9. The Iraqi leadership criticized the new UN Security Council resolution renewing the country's oil for food program. No oil was flowing at either the Mediterranean or Gulf Iraqi ports. The Iraqi News Agency reported that Iraq pledged Euro 1b in aid to the Palestinians. It was Saturday, and the crude markets were closed.

December 10. An Iraqi official claimed Iraq would soon resume exports but, "Because of bad weather, lifting of Iraqi oil from Mina al-Bakr has not started yet." Iraq also claimed that some of the vessels had to have letters of credit reviewed before lraqi ports would begin loading them. Five tankers, the Jade, Astro Beta, Crude Traveler, Panormos, and Sahara were queued and waiting to load Basrah light crude from the Persian Gulf terminal. Baghdad was still openly threatening transportation companies with threats of punishment if they supplied US companies with Iraqi crude.

Iraq also demanded $0.40 per barrel more than the new UN prices approved on December 7. The Iraqi SOMO said the surcharge would apply to both Ceyhan and Mina al-Bakr shipments. Iraqi officials reiterated Trade Minister Saleh's earlier statement that any company found supplying "hostile states" would be "black-listed". Thankfully, the crude markets were closed as it was Sunday.

December 12. The API report showed a much larger than expected drawdown of US crude inventories. The year over year crude deficit was reported at 8.45m barrels. The US EIA reported that crude prices should average $30 per barrel for the first six months of 2001. Crude oil actually rose one half a percent!

December 13. Iraqi engineers FINALLY resumed lifting oil at Mina al-Bakr after a twelve day suspension. Many speculated Saddam Hussein was offering an "olive branch" to George W. Bush immediately after Gore FINALLY conceded.

The first two tankers loaded, the Jade and Nikolaos, were chartered by the Indian state-owned India Oil Company. Traders speculated that the Indians were paying the illegal surcharge to Iraq, but the Indian government denied the allegation. The Kirkuk crude flowing to the Ceyhan port via the Turkish pipeline was outright stopped, as huge land storage tanks at the port were full since there had been no exports for two weeks. There were no signs of when Ceyhan exports to the US and Europe might resume.

Finally, Russia blocked the UN Security Council from issuing a statement preventing crude buyers from paying the Iraqi government's required surcharge. Algerian Energy Minister Chakib Khelil announced that OPEC would absolutely cut production by at least 1.4m barrels at its January 17 meeting in Vienna. Crude oil prices slumped another 3% on the day.

December 17. Iraq was still loading crude at Mina al-Bakr, with exports running about 1m bpd. The sixth tanker to load since December 13, the Skopelos, was filled. Total Iraqi daily export levels were still over 55% below the pre-December 2.4m bpd. The Iraqi SOMO was still haggling over the price of Kirkuk crude to be loaded via Ceyhan.

Finally the official President-elect, "Dubya" Bush announced former scourge of Iraq General Colin Powell as his new Secretary of State. When asked about UN sanctions against Iraq at a news conference, Powell said, "They have not yet fulfilled those agreements (accounting for weapons of mass destruction) and my judgment is that sanctions in some form must be kept in place until they do so. We will work with our allies to re-energize the sanctions regime." Powell stepped all over any olive branch that Iraq may have been extending to the new administration. Interestingly, Colin Powell was once one of the biggest critics of the sanction regime.

Iraq was NOT happy with the announcement, as Saddam saw all his old American nemeses rising to power (Bush family, Cheney, Powell). The Commander of the Iraqi Anti-Aircraft Defenses (a lot of good these did during the Gulf War!) Lieutenant General Shaheen Yassin responded, "This failed Powell is threatening Iraq and we tell him: neither your statement nor your new post mean anything to us. Secretary of State-designate Powell's threats would not scare us, rather they would encourage us to be more defiant." Fortunately, the crude oil markets were closed as this was once again Sunday.

December 18. The Iraqi boycott of the US apparently faded as a supertanker bound for the States was allowed to load at Mina al-Bakr. The resumption of crude loading still appeared to be undertaken on a tanker-by-tanker basis. The Turkish Ceyhan port was still mothballed.

Iranian OPEC Governor Hossein Kaempour Ardebili said, "OPEC will need to make a minimum cut of 1m bpd at the January meeting regardless of whether the basket price is below $22 per barrel. The fundamentals - stock build-up and supply/demand imbalance - warrant this cut." Crude prices actually rose 3% on the day for a change!

December 19. Perpetual American gadfly Libya joined the chorus of OPEC countries calling for a January production cut. Libyan Leader Moammar Gaddafi said, "The situation at this stage requires a serious look at cutting production to restore the market balance." Indonesia, OPEC's only Southeast Asian member, also echoed the call for at least a 1m bpd oil cut in January. Crude traders and speculators rolled out of expiring January contracts and picked up February futures contracts to continue playing the game. Crude oil plummeted yet another 6% on the day!

December 20. Kuwait joined the campaign for OPEC cuts. Kuwaiti Oil Minister Sheikh Saud Nasser al-Sabah said, "Consultations are ongoing (with other OPEC members) and statements made are clear: If prices continue to decline, cuts will be unavoidable. I said unavoidable … not less than 1m bpd." Ceyhan was still deserted, twenty days after Iraq had shut it down. Oil crashed almost 8% to a multi-month low.

December 22. Iraqi shipments of crude oil from Ceyhan were STILL suspended. Crude oil rose three quarters of one percent. And the sordid Iraqi soap opera continued…

So as of our arbitrary December 22, 2000 cutoff date, what was the net true effect of the Iraqi embargo on world crude oil markets? The table below outlines the results. To be conservative, we assumed the illegal Syrian shipments were still occurring when Iraq shut the rest of its exports down. The net lost oil production from Saddam Hussein's December surprise is quite extraordinary…

Conservatively, the net effect of the crude Iraqi fun and games is at least 53.4m barrels of oil that were supposed to be shipped to global oil markets in December that just "vaporized". This estimate includes 26.4m barrels of Ceyhan crude not shipped, 12m barrels of Mina al-Bakr crude, and an estimated 15m barrels additional shipping capacity "lost" in transportation delays due to rescheduling and rerouting scarce supertanker traffic. 53.4m barrels is a HUGE amount of oil, and it even dwarves Clinton's earlier market manipulation of injecting 30m barrels of the United States Strategic Petroleum Reserve oil into the economy, in its first EVER peacetime draw. The Iraqi action should not be underestimated, even though the US media and traders chose to yawn and ignore it.

Paradoxically, in record tight crude markets, the crude oil price crashed 27% over the exact same period all this critical light-sweet Iraqi crude disappeared from the world markets! Hmmm… Demand high and rising, supply plummeting, and the price crashes??? What on earth are oil traders smoking these days? They sure do not appear to be trading on fundamentals!

This anomaly was exceedingly interesting to observe and is still very much in force today.

The ultimate fruits of Saddam Hussein's endeavor have yet to be felt in the United States. On average, it takes 30 to 45 days to transport Iraqi crude oil to American oil refineries. We suspect that a big slow-moving oil vacuum (kind of a "negative" tidal wave) is slowly oozing towards the United States. Since at least 53.4m barrels of crude oil is gone from the markets (and Iraq oil loading was STILL very slow at Mina al-Bakr and believed to not be happening at Ceyhan in early January … so the Iraqi shortfall is probably much greater than our estimate) this oil deficit is bound to slam into the US with full force at some point in the near future. It will probably be an awesome sight to behold.

Net net, a funny anomaly appears to have bloomed in the global crude oil markets. Iraqi crude oil has been Saddam-ized. Like NASDAQ 5000 or natural gas $2.00, supply and demand fundamentals dictate that the crude oil price should be very different than it is today. We have no doubts that, like other historical lapses in market efficiency, this one too will soon be remedied to the upside. The crude oil markets have tremendous potential to become VERY interesting in the next several months…

Adam Hamilton, CPA, MCSE
aka Zelotes

12 January 2001

For a complimentary copy of the latest issue of our monthly intelligence briefing, Zeal Intelligence, please visit …

Thoughts, comments, flames, letter-bombs? Fire away at … [email protected]

Mr. Hamilton, a private investor and contrarian analyst, publishes Zeal Intelligence, an in-depth monthly strategic and tactical analysis of markets, geopolitics, economics, finance, and investing delivered from an explicitly pro-free market and laissez faire perspective. Please visit for more information.

Adam Hamilton, CPA, is a principal of Zeal LLC, which he co-founded in early 2000 as a pro-free market, pro-capitalism, and pro-laissez faire contrarian investing and speculating Information Age financial-services company. Hamilton is a lifelong contrarian student of the markets who lives for studying and trading them.

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