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(Reuters) - Oil prices hit their highest levels in more than two and a half years this week, driven by tension across the Arab world and a bullish trend across commodity markets.
Brent touched a peak of more than $127 on Monday, only around $20 below the record hit in July 2008, which was rapidly followed by a spectacular crash to below $40.
Brent futures and their U.S. counterpart, trading on international markets, are the most obvious indications of the price of oil.
But the industry looks at an array of indicators as well as levels for differing grades of crude oil sold on physical markets.
The main considerations are explained below.
MARGINAL COST
The marginal cost is how much producers have to pay to discover and extract oil from the most difficult areas.
Oil is very cheap to extract -- a few dollars a barrel -- in places such as Saudi Arabia and Iraq.
But at the margin, oil sands in Canada, deep offshore projects and Arctic and Siberian oil are much more expensive. Goldman Sachs assumes that some Russian crude now represents the most costly barrel at around $100.
Nomura analyst Michael Lo said on average the marginal cost of oil is in the mid-$70 to mid-$80 range, assuming a fair return of 10 to 15 percent for investors.
OPERATING OR CASH COST
The cost of operating fields once they are already on stream has been estimated to average around $50 a barrel.
Extracting oil becomes more expensive over the life of a field. The cost of producing the last oil from any field is usually the most expensive.
Oil majors often begin production on large oilfields and sell them once they are depleted to smaller companies to drain.
GOVERNMENT BUDGET ASSUMPTIONS
Oil-producing nations have historically assumed very conservative prices for a barrel of oil when setting budgets, allowing for some slack in their spending should prices fall.
Data from analysts at Deutsche Bank estimated the weighted average fiscal breakeven price for OPEC producing countries -- the oil price that balances government budgets -- was around $77 a barrel in 2010.
That is well below the current market level, which has been above $100 for Brent since early February.
Producers could be very glad to have a surplus. Some Middle Eastern governments responded to the "Arab Spring" of violent protest across North Africa and the Middle East by doling out costly state handout to try to quell any popular dissent.
Saudi Arabia alone announced $116 billion in social handouts in February and March, prompting Bank of America Merrill Lynch to raise the kingdom's budget breakeven oil price to $95 a barrel for 2011.
OIL COMPANY ASSUMPTIONS
Like oil-producing countries, international oil companies also make modest price assumptions used when assessing the viability of oil projects.
BP (BP.L) said its oil price assumption was between $60 and $90 a barrel. Total (TOTF.PA) said it worked on a base case of a long-term Brent price at $80 a barrel.
Shell's (RDSa.L) oil price assumption is between $50 and $90 a barrel. Petrobras (PETR4.SA) said it would boost its internal oil price forecast to above $80 a barrel for its next five-year plan.
FAIR VALUE
Fair value is a notional price taking into account only supply and demand and cutting out speculative influence.
Estimates of the fair price vary wildly between different producers.
It ignores factors such as the risk of conflict in oil-producing nations, currency effects and fund flows in and out of oil.
Leading OPEC producer Saudi Arabia has repeatedly said a price range of $70 to $80 a barrel is fair to both producers and consumers.
As the market has moved beyond that level, other members of the Organization of the Petroleum Exporting Countries have raised the bar.
Since the latest rally took off in early February, Kuwait has said $90-$100 is fair, while Iraq's oil minister has said $120 is reasonable and Iran has said an emergency meeting would not be necessary even if prices moved to $120.
Tom Pawlicki of brokers MF Global noted that Venezuela said in February $200 was possible if the Suez Canal were closed and even that price would not justify an emergency OPEC meeting.
BENCHMARKS
U.S. light sweet crude, North Sea Brent and Dubai crude futures are all used as benchmarks to price different types of physical crude oil.
Although U.S. crude used to be cited as the chief benchmark, it has been overtaken by Brent, particularly since the start of this year. Brent is trading at a more than $10 premium to the U.S. contract.
PHYSICAL CRUDE
Physical barrels of crude oil are priced against the benchmarks and, depending on their quality, assessed at discounts or premiums to them.
The most expensive crudes in the world, including Nigeria's Pennington or Malaysian Tapis, command a premium because they have low sulfur content, making them easy to refine to produce high yields of gasoline and other light fuels.
At the other end of the scale, heavy Iranian crudes Soroush and Norouz are sold at steep discounts to Brent crude.
Buyers have to pay for transportation, taxes and any currency exchange costs before the total cost for purchasing the oil can be calculated.
(Reporting by Nia Williams and Sybille de La Hamaide, editing by Jane Baird)
