Despite seven weeks of inventory withdrawals, the global oil market has failed to translate this effect into a sustainable and significant oil price increase. Doubts remain. As reported, OPEC production has edged up. The compliance rate among OPEC and NOPEC members of the Vienna deal, extended to March 2018, has fallen. US production has added more barrels to global production.
Lastly, the speculation about oil demand peaking in 20 or 30 years due to the rise of EVs and renewable energy further suggests an on-going softening of crude prices.
Considering the factors above, it is highly probable that oil markets, in the near future, will remain bearish and prices range bound until or unless there is a drastic change in world oil consumption (Demand) and/or deeper cuts by OPEC-NOPEC members (supply).
Last week oil inventories dropped by 8.9 million barrels as reported by the EIA. But the huge inventory withdraw failed to impact oil prices in the same way as did the build-up of same quantity of barrels last year when oil prices took a deep plunge on the news. The fact is that markets have now realized that inventory withdraws- amplified due to the summer driving season which normally sees gasoline demand pick up – are only a temporary relief and that there is no certainty that after summer driving season is over the inventories will not start ballooning up anew. Such doubts are not unfounded. We have seen that despite production cuts pledged in November 2016, and the extension of that very deal to March 2018, oil prices have remained at a sub-$55 level.
Of course, rising US production has been a constant factor influencing the effectiveness of the cuts, as the US was able to produce almost an equivalent amount of production that the OPEC-NOPEC producers decided to cut in 2016. A rising US rig count and an uptick in E&P budgets was a sign of confidence in US oil producers. According to the latest reports, production has added another 79,000 barrels making the total figure stand at 9.5 million barrels per day. Only just one year ago the figure was 8 million barrels. One can see, quite vividly, how US production has been a cause of concern for global crude markets. The argument that US producers are starting to feel the pain of low oil prices is difficult to buy when companies like ExxonMobil, Chevron and Eni posted profits in the second quarter of this year. Exxon’s profits nearly doubled while Eni and Royal Dutch Shell reported strong profits as well. These results signal that the oil and gas industry has started to recover from lower oil prices over the past three years. According to an article in the Financial Times, “Lydia Rainforth, analyst at Barclays, said such earnings offered reassurance to oil investors that “the sector works at $50 per barrel”, referring to the level where crude prices have largely swung this year.”
According to a new report from Haynes & Boone oil bankruptcies have slowed down in 2017 with only 14 companies filing for Chapter 11 bankruptcy from 50 in the same period in 2016. Another sign that corroborates the recovery process in US Shale industry. The rig count, at 768, is highest since April 2015 as well. According to Rex Preston Stoner, an energy analyst with HUB International, the US rig count is a useful barometer of the health of the US oil & gas sector but such health is unevenly distributed with stronger drilling contractors – such as Helmerich & Payne – pulling through this downturn while smaller drilling contractors still struggling.
The IEA has raised concerns concerning demand growth and the OPEC compliance rate which can prolong a much-needed act of re-balancing. The compliance rate has slipped to 75%. Oil prices have fallen 9% this year on suspicions that OPEC and NOPEC members are not doing enough to drain the glut. The United Kingdom, France and India are mulling decisions to ban sales of EVs in the future. According to Bloomberg New Energy Finance, electric vehicles may displace 2 million barrels of crude oil per day by 2023. While this may be an exaggeration, the threat of EVs to the hydrocarbon industry is not to be ignored. It may be not a matter of if but when. In the long term, the rise of EVs is certainly predicted to disturb the oil consumption pattern of the global transport sector.
From the height of triple-digit prices ($140) some years ago, oil has fallen to a range of $40-$55 (touching $26 in January, 2016). US oil production is expected to rise in the future as well – perhaps exceeding 10 million barrels per day. According to the IEA, US production will grow by 117,000 barrels in September as compared to August. Determination among OPEC members to keep cuts on production is wavering as members have not seen any benefit to their output cuts. Accordingly, the outlook for oil is not strong. In light of all these factors, one can easily sense prevailing market bearishness in the future to come. Oil prices are expected to remain ‘range bound.’
Oil Markets Ignoring Realities
Brent oil touched $68 last week. WTI is already past $60 mark. Inventories are down by 20% nearing to the five year moving average of 420 million barrels. But all is not hunky-dory with the oil markets. There are some wildcards at play right now. Temporary factors, driving prices up. The markets and observers need not to lose sight of what are the potential risks to this upbeat and probably short-lived phase of recovery.
Last year we saw the Kurdish referendum which resulted in a price hike. However, we didn’t know that 2018 will have another big surprise (distressing one) in its stock: Unrests in Iran. Slogans like “Death to Khamenei” cannot be taken lightly. Nor the killings that have ensued as a result of these protests. Government has warned to deal with an “iron fist” in order to control the situation which only seems to get worse. This is one of the factors that are drawing oil prices up, representing the typical relationship between any unrest/disorder/conflict in Middle-East resulting into a higher oil price. But matters are not that simple. If these unrests can translate into a higher oil price, it can also cause Iran, in case tensions escalate, to leave the Vienna accord. This can be due to more sanctions slapped upon the regime in case they take any serious action against the protesters or due to general economic problems that might result, once again, if matters exacerbate.
Pipeline outages also helped to provide some buoyancy to oil prices. Disruptions in Forties Pipeline, one of the most important in the world, gave prices a boost when the company announced that it can take a longer time to repair the hairline crack that appeared in December, 2017. However it is fully operational as of now.
The recent meeting wherein members of Vienna accord decided to extend their deal for the full 2018 year was another cause of merriment for the oil markets. But that caveat according to which the members will meet again in June to review the situation can be taken as a wicket-gate for the ones who want an exit. Russia has already signaled to take about an exit strategy. The oil executives in Russia are not happy to see the growing U.S. shale production and market share.Kingdom of Saudi Arabia has its own reasons. They have an IPO to take care of hence; they are trying to keep all these oil producers together. But the question might be asked: For how long? It is their company (Aramco) and their IPO. Not every country in the region has a plan to wean itself off oil.
What has become a necessary part of the narrative whenever discussion the future of oil, in terms of prices or usage, is of-course, United States of America. U.S’ shale production has risen from 8 million barrels in 2016 to 9.78 million barrels per day (latest). The estimates for future rise in US production are promising. What is also important, but obvious, to mention here about the vicious cycle that higher oil prices trigger. The solution to which is only a stronger demand.
Even though oil prices are at post-crisis high it doesn’t mean that the trend will continue. Sustainability is the most important and decisive factor. Geopolitical risk premiums are temporary. So are the pipeline outages (if in case there are any in future). Time and again, we have to remind ourselves of not getting carried away by these ephemeral rallies. We should look for something sustainable, permanent, and fundamental. Until or unless we find it, the search for higher oil prices should continue.
Shale growth, Geopolitical tensions and Re-balancing
It has been a wild ride for oil prices. November 4th, 2017, prime minister of Lebanon Mr. Hariri resigns, at night missiles from rebel occupied Yemen can be seen hurtling across the sky of Kingdom of Saudi Arabia. What begins next has been widely covered by all the major media outlets.
Sharing the Economy
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