Market fundamentals point to chronic oversupply of crude oilthroughout 2016. The technicals point to the makings of an oil price rally. A strong price rally from current levels may extend the situation of chronic oversupply that may have a debilitating impact on the oil price and the oil industry for years to come.
Figure 1: The oil price has seen a lot of action since the last report. As anticipated, support in the vicinity of $40 did not hold and the price moved sharply lower in January. WTI hit $26.68 and Brent $26.01 on January 20th. Since then there has been a cyclical rally. More on the future direction of the oil price at the end of this report.
This article first appeared on Energy Matters.
Figure 2: The bigger picture shows how price support has been busted. The lower dashed line shows the lows reached in 1998. On a deflated basis, that works out at around $15 in today's money.
Figure 3: The US oil and gas rig count has continued its steep decline, but as yet, this has not shown up in significant falls in US production. The situation remains complicated by large numbers of drilled and uncompleted wells coming on line. At some point, the fall in drilling must show up in sharply lower production. But with 498 rigs still drilling oil and 121 rigs drilling gas (+associated liquids), there is still a lot of new production to substantially offset steep declines in LTO wells.
Figure 4: The near-term peak in US production was 13.24 Mbpd in April 2015. The December 2015 figure was 12.76 Mbpd, down 480,000 bpd from that peak. US oil production remains stubbornly high. Only when this begins to fall substantially will analysts be able to chart a restoration of market balance that may then lead to a significant rally in oil price.
Figure 5: OPEC production stands at 31.59 Mbpd down 130,000 bpd on October. There has been very little action in the OPEC producers, all are managing to maintain production levels. Iran is waiting in the wings to introduce a further 730,000 bpd (IEA) in the course of 2016 now that sanctions have been officially lifted. Indonesia has now bizarrely re-joined OPEC but I will continue to plot Indonesia with Asian countries since it is in fact a substantial importer of oil.
Figure 6: The IEA has been late this month in releasing data and the public version of the OMR and spare capacity numbers for December are not yet available.
Figure 7: In December, Saudi production fell by 50,000 bpd to 10.14 Mbpd, which is effectively unchanged. NZ = neutral zone which is neutral territory that lies between Saudi Arabia and Kuwait where production from the Wafra heavy oil field is now effectively zero.
Figure 8: The ME OPEC oil rig count is on a rising trend with operational cycles superimposed. While the rest of the world has lost its appetite for drilling, it remains business as usual for the ME OPEC countries.
Figure 9: The international oil rig count continues its slow decline and has now declined to the peak level of 2008. I suspect a large number of the rigs counted here as operational are in fact under contract but stacked by clients who in the UK at least have lost their appetite for drilling.
Figure 10: Russia and other FSU produced 13.95 Mbpd in December, down 120,000 bpd and little changed for 3 years. Russia was in fact up and all of the marginal decline came from the other FSU countries.
Figure 11: The cycles in European production data are down to summer maintenance programs in the offshore North Sea province. To get an idea of the trend, it is necessary to compare production with the same month a year ago. The dashed line shows that European production has been essentially flat for three years but is now showing signs of rising, the result of the industry working flat out for 5 years on the back of $100 oil. European production is up 30,000 bpd to 3.49 Mbpd compared with a year ago.
- Norway Dec 2014 = 1.96 Mbpd; Dec 2015 = 2.02 Mbpd; up 60,000 bpd YOY
- UK Dec 2014 = 0.91 Mbpd; Dec 2015 = 0.93 Mbpd; up 20,000 bpd YOY
- Other Dec 2014 = 0.59 Mbpd; Dec 2015 = 0.54 Mbpd; down 50,000 bpd YOY
Figure 12: This group of S and E Asian producers has been trending sideways since 2010. The group produced 7.69 Mbpd in December, down 100,000 bpd on the revised November figure. Note that Indonesia (an oil importer) has rejoined OPEC. The OPEC production numbers are reported ex-NGL by the IEA and this has meant a 170,000 bpd drop in reported Indonesian production that contributes to the blip down on this chart.
Figure 13: N American production looks like it topped in April at 20.12 Mbpd:
- USA Nov 2015 12.87 Mbpd; Dec 2015 12.76 Mbpd; down 110,000 bpd
- Canada Nov 2015 4.52 Mbpd; Dec 2015 4.53 Mbpd; up 10,000 bpd
- Mexico Nov 2015 2.63 Mbpd; Dec 2015 2.60 Mbpd; down 30,000 bpd
Group production down 130,000 bpd from November to 19.89 Mbpd in December. Group production down 230,000 bpd from the April peak (this is the more reliable statistic being less affected by monthly data revisions).
Figure 14: Total liquids = crude oil + condensate + natural gas liquids + refinery gains + biofuel. December production was 96.46 Mbpd down 740,000 bpd on the revised November figure (350,000 of that is down to November being revised up). July 2015 remains the IEA total liquids peak at 97.08 Mbpd. December production is down 620,000 bpd from that peak. Looking at the chart, we see a production plateau forming. There is still a long way down to the long-term trend line.
Figure 15: Global stock changes reflect the imbalance between supply and demand. Surplus supply grew in 4Q 2015 at a rate of 1.8 mbps. Compare with my "forecast" made in December of 1.87 mbpd. The oversupply situation is likely to persist throughout 2016.
High Noon for the Oil Price
No one has ever been able to predict the oil price. The current situation is a balance between quite strong bull and bear signals.
On the bear side, we know that:
- The market will likely remain oversupplied throughout 2016.
- Demand in Q1 and Q2 is cyclically weak.
- Iran returning to full market will pour gasoline on the bonfire.
- There are multiple signs of a slowing global economy, despite cheap energy.
- There's no sign yet (as of December 2015) of production falling significantly.
On the bull side, we know that:
- The oil price will definitely rise from current levels unless the global finance system fails.
- Low price and low investment now, lays the ground for supply shortage in the years ahead.
- Zero spare capacity will prime the market for volatility and price spikes to come.
- The downtrend in declining price tops has been broken and there are signs of price support at current levels (Figure 1).
On a one-year time scale, I believe the bear fundamentals sway the day. But the market rules, and the pricking of the recent trend in declining tops (Figure 1) combined with a strong price rally today (WTI up 9% on 3 Feb) may suggest that buyers now outnumber sellers.
Investors and speculators will expect the $26 lows to be tested. The fundamentals prevailing at that time will be crucial. A concern I have is that if oil rallies soon to say $60, then many inefficient producers may survive and then act as a drag on price for years to come. The cost of new marginal supply is high as is the cost of maintaining social services in Saudi Arabia and Iraq.