With oil supply expected to continue to grow throughout 2016 and demand estimates downwardly revised, the question of the ability for storage to meet the growing storage demand as inventory climbs, has the potential to be an issue for the year.
This is important to understand because if there isn't enough storage, it could produce the worst-case scenario on the low-price side of oil estimates. On the other hand, if storage is more than enough to hold the growing inventory level, it would result in the low price of oil remaining for a prolonged period of time.
Also important in storage and inventory is the price of storage would jump if it reached, or was close to reaching capacity. It would also suggest a forced reduction in production and supply, which could be a catalyst for the price of oil if that were to be how it played out.
Current status of global oil storage
The first thing investors need to know is the data associated with the actual global storage capacity is very murky at best. Numbers in the U.S. can be trusted, but there is a lot of uncertainty concerning the amount of spare storage capacity outside America, according to the IEA.
We can get a grasp of how much capacity will be added in 2016, but we don't know the real base it's working from.
What we do know is the U.S. has approximately 100 million barrels in additional capacity.
The IEA said global inventories jumped by about 1 billion barrels from 2014-2015, with another 285 million barrels estimated to be added in 2016. I believe that may be a low-ball estimate, and it could be much higher than that. My major reasoning for that is Iran alone could account for more than 50 percent of that by increasing its supply by 500,000 per day. If it manages to boost that to its asserted goal of 1 million barrels a day by the end of the year, that would result in the inventory levels almost certainly surpassing estimates.
Obviously some of that would be sold, but I mention Iran because it will have the most significant effect on the market in 2016. Others will be adding supply as well, although not near the level Iran will.
Since demand from China has been downwardly revised for 2016 and a lot of storage capacity scheduled to be added, it's more likely there will be enough global storage for increasing inventory. The uncertainly lies in not knowing the level of spare inventory capacity in the majority of the world because of lack of transparency; there's no way of knowing the base we're working from.
Building additional storage capacity
Much of the worst-case scenario for the low price of oil is predicated upon storage. If storage capacity were to be reached, that's where the price could drop to as low as $10 to $20 per barrel, by some estimates.
Depending on how quickly Iran brings more supply to the market and at what level, we could see oil test the $20 mark, but without storage issues, it probably wouldn't remain at that level for a long period of time.
The major player in expanding storage capacity over the next year is China, which should add another 40 million barrels in capacity in 2016, with some suggesting it could be closer to about 115 million barrels more in storage capacity for the country.
Further out, there are a number of countries or U.S. states scheduled to have capacity added over the next several years, including Texas, which is going to add about 32 million barrels in new capacity.
Importance of storage capacity to oil industry
There are to things to understand and consider when including oil storage capacity in our analysis of the industry. One is the impact on the low end of the price, and the second, the duration of the low-price environment.
In the case of lack of storage, it would drive the price of oil down to extremely low levels. This is where some of the worst-case scenarios have been proffered by analysts. The world would drown in oil if this is how it were to play out.
This is an unlikely scenario, but a possible one if supply soars far beyond demand, and the availability of storage capacity around the globe is overestimated and slow to be increased. Banks making extremely low price projections do so primarily based on this scenario being the one to play out.
If there is more than enough storage capacity, the price of oil will remain low for a longer period of time because there will be no reason for supply to be curtailed. Storage availability means oil has a place to go, which operates as a floor on the low side of the price of oil, but one that will probably extend further into the future.
What most investors aren't taking into account with storage
One area the majority of investors aren't considering as it relates to storage, is the shale industry.
What is unique about the industry is its ability to develop drilled but uncompleted wells, and sit on them if they have to until the most opportune time. They can be quickly be brought into production and bring supply to the market.
How this could have an impact on inventory is instead of producing and storing oil, shale producers can keep the oil in the ground at no additional expense.
This is vital to understand because most investors aren't taking this into account as a form of inventory to be worked through. It's being analyzed as other oil resources are, which isn't the correct way to think about it. In other words, shale producers are using storing oil in the ground or shale, instead of tanks or ships, meaning just like stored inventory will have to be worked through, so will DUC wells ready to be brought into production in a very short period of time.
There aren't going to be any agreements to cut oil supply. The oil will continue to flow at levels outpacing demand. That means inventory is already a factor in the price movement of oil. None of that will change in 2016 if downwardly revised demand is how it plays out, which is almost certainly to be the case.
Now the issue will be whether or not added capacity will keep pace with supply, or storage facilities run out of space. The other will be how quickly the approximate 4,700 DUC wells waiting to be fractured. Combined they represent about 322,000 barrels a day in supply. Again, that's valuable to know because it would be added to stored inventory if the market ever comes close to rebalancing.
I tend to think even with the uncertainty surrounding how much actual global oil storage capacity there is, there should be enough even with the oversupply expected in 2016. I think we would have heard more about it if there were in fact a desperate storage crisis coming in the near term.
For that reason, we will probably not see the price of oil plunge to the low end of estimates; although it could drop there temporarily if Iran brings more supply than expected in the short term.
There is a higher probability oil prices will remain subdued for a longer period of time because global storage capacity will be adequate and supply continuing at high levels.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.