London's Marble Arch and the "Real Price" of Oil

I attended the Platts Global Crude Oil Summit in London not long ago. From what I learned, there’s plenty to discuss about where oil is headed, especially what I like to call the “real price” of oil.

But first, let’s discuss London’s famous Marble Arch…

On this trip to London, I booked a hotel in the Marble Arch area, near the famous “Speakers’ Corner” section of Hyde Park. In fact, every day, I walked by both Speakers’ Corner and the iconic Marble Arch on my way to the subway.

Marble Arch is a handsome, 19th-century triumphal gate, faced with white Carrara marble from Italy. Modeled after the classic Arch of Constantine in Rome, London’s Marble Arch was designed in 1827 by British architect John Nash (not to be confused with the recently deceased mathematician of the same name, of A Beautiful Mind fame).

Nash’s mandate was that Marble Arch would form a grand front entrance to the main ceremonial courtyard of Buckingham Palace.

Marble Arch was a heady commission for Nash, or any royal architect. That is, per custom and tradition, a grand ceremonial arch is symbolic of a nation’s greatest military victories. The idea behind the arch was that only members of the royal family and the King’s Troop Royal Horse Artillery were permitted to pass through, and this only during ceremonial processions.

Construction on Marble Arch began in 1827; it was completed in 1833. Based on the origins and design, Marble Arch was destined to last for many an age.

In fact, Marble Arch stood squarely before the Buckingham Palace courtyard during the early years of the reign of Queen Victoria. However, after not quite 15 years, the queen determined that Buckingham Palace was simply “too small” for her needs. The solution was to enlarge the palace by expanding its grounds to what one sees today.

In the process of expanding Buckingham Palace, Marble Arch was dismantled between 1847–1851, and rebuilt at the northeast corner of Hyde Park.

Marble Arch, London. BWK photo.

As fate would have it, and as London paved out its street and road grid in the late 1800s, Marble Arch became isolated. Today, its context is entirely lost; it sits not abandoned, but certainly incongruous, on a large traffic island at the junction of Oxford Street, Park Lane and Edgware Road. It’s also just across the street from a subway station called — no surprise — Marble Arch. Really, who builds a marble arch over a subway stop?

Marble Arch and the Brent Quote for Crude

With this in mind, let’s discuss another relic of British Empire, namely the current global method for pricing crude oil. That is, one often sees the price of oil listed in terms of the “Brent quote.” What does that mean?

Go back to the 1980s, to the early days of oil development in the North Sea. Britain’s offshore Brent field (named after a species of bird, the brent goose) was a major producer of light, “sweet” — low sulfur — oil, such that over time, daily trades in Brent became established as a global price benchmark.

Thus with Brent did the British North Sea oil industry set a world-spanning price for mankind’s primary form of liquid energy supply. In other words, the price for Brent oil established the standard by which other crude oils across the world were bought and sold. The only adjustment was for chemistry — API number, sulfur content, refining characteristics, etc.

Over time, however, volumes from the Brent field declined dramatically. Traders began including oil from other North Sea fields to create the Brent daily price quote. Today, “Brent” is pretty much a pharmaceutical concoction of a variety of oils. The Brent name includes volumes and prices of oil from the Brent platform (about 2,000 barrels per day), plus oil from the Forties field and Oseberg and Ekofisk crude (called the BFOE quote).

Based on decades of usage, however, the Brent price quote remains a petroleum industry standard. In fact, tens of millions of barrels of oil output from across Europe, Africa and the Middle East are priced daily relative to the Brent quote. Due to Brent pricing power, even oil from Russia gets priced at Brent levels, despite Russian efforts to use their own “Urals” quote.

Russia Has Other Ideas

Now we return to that recent Platts oil summit in London. A representative from Russia’s Rosneft Oil Co. offered a subtle but blistering critique of the underlying basis for a “so-called Brent” quote. “First, there is almost no Brent oil,” he said in reference to the Brent field’s daily 2,000-barrel output. “Declining upstream activities in the North Sea present a challenge.”

“By comparison,” he added, “nearly one-third of Europe’s oil comes every day from Russia, well over 3 million barrels of crude and refined products.”

Despite economic sanctions against Russia, noted the Rosneft man, Russia is and remains one of the world’s key oil producers. Then he pointed out that Russian oil companies are involved in innumerable levels of international contracts for crude oil, in immense volumes that “certainly can be used to support the transparency of benchmark price determination.”

Meanwhile, noted the Rosneft representative, last year’s precipitous drop in oil prices “was not justified by the economic fundamentals, with supply-demand imbalance being just a fraction of that observed in 1985” (that year being a historical reference to past price dislocations).

In essence, I understood the Russian rep to say that “Western” pricing mechanisms — namely the Brent quote — are subject to excessive levels of raw, speculative trading far outside the norms of physical supply-demand balance. And Russia doesn’t like that — having its economic fate determined by financial traders over whom it has little control.

I came away from the Platts summit with the distinct impression that Russia is lobbying hard for Western price-makers to use more “Urals” oil in forming price quotes. One rather large carrot that Russia is dangling is the prospect of North Sea-oriented oil producers and service companies working further north, in Russian Arctic waters. “North Sea production is falling,” declared the Russian rep. “Russian offshore could offer an opportunity to shift services eastward,” he added, mincing no words.

The Brent-Marble Arch Quote

In sum, just as London’s Marble Arch is a well-regarded classical structure without contemporary context, so is the Brent oil quote. Of course, one can imagine Marble Arch sitting nobly before Buckingham Palace, but that’s not the reality anymore. Similarly, one can imagine vast oil formerly flowing out of the old Brent field, but not now.

Whatever original purpose and meaning either item had — Marble Arch or Brent — is now lost to the passage of time and events. Both are relics of a bygone era.

In the case of Brent-quoted oil, I suspect that over time, it will lose its luster, and it becomes more likely as Russia waits in the wings to offer an alternative methodology. When that transformation occurs — and Brent goes the way of Marble Arch, to be replaced by Urals — I suspect that ripple effects will doubtless impact use of the U.S. dollar, as well. That’s another story entirely.

Sincerely,

Byron W. King
for The Daily Reckoning

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