Oil May Trade in the $80-100 Range for a While

I think oil will trade in a range of $80 - $100 a barrel in the foreseeable future, probably another year.  Why?  First supply and demand:  Vectors for a lower price include roughly 3 mb/d  of reduced demand from the U.S. (about 1 mb/d) and more Saudi supply (about 2 mb/d) vs. a year ago.  The rest of the world is about flat with higher demand from China, some other Asian economies and oil exporting economies more than offsetting reduced OECD demand.  On the non-Saudi supply side, more supply from Iraq, Angola and Libya is more than offset by lower supply caused by declines in old fields and lower production from Russia, the North Sea, Venezuela and Mexico.  So I suspect we are getting about 1 - 2 mb/d of extra supply over demand these days compared with about 1 mb/d extra demand vs. supply a year ago.

In this context it makes perfect sense that the Saudis would now begin paying attention to their need to reduce production as discussed in this report. The current imbalance of excess supply cannot go on for long without the price falling to levels not determined by any given downside resistance number.   In that context, I suspect it makes sense that the Saudis would soon start to cut back by perhaps 1 mb/d unless Nigerian supplies are drastically reduced by new MEND attacks on oil supplies. 

A significant unknown is the global decline rate.  It is generally forecasted to be about 4% - 5% or 3.5 mb/d but nowhere, to my knowledge, is it compiled with comprehensiveness and integrity and made public.  The decline rate is actually the natural decline of old fields net of  EOR (enhanced oil recovery) efforts that get more oil out of such fields earlier.  My sense is that more countries will have applied new EOR methods to old fields than is generally appreciated, given the higher oil prices for the past several years that provide incentives to use EOR methods.   If so, the decline rate could currently be running significantly lower than it was before we experienced several years of much higher oil prices.  Another developing trend is weakness in the U.S. and possibly E.U. economies.  Real U.S. consumer spending reductions are just now starting to be felt and will likely be far more pervasive over the next year.  So I suspect there is currently significant pressure building for lower oil prices from trends toward lower decline rates and lower OECD demand.

I suspect oil will hit $80 or even below because the price tends to overshoot in both directions.  I doubt the Saudis want oil to trade as low as $80, but the Saudis are still pumping too much, their existing oversupply will take time to wear off; and trend following speculators will tend to keep the price falling beyond the fundamental reasons.  Nigerian production has begun to be hurt by a new MEND campaign of attacks but it will take a huge number of successes for MEND to impact Nigerian supplies close to the 1 - 3 million barrels of oil the world may now be in over-supply. 

Both the increased EOR efforts and the low price of oil should come back to haunt the oil market in a few years.  More EOR now means that the decline rate for old fields will accelerate in later years compared with what it would be without near term EOR efforts.  So if decline rates are actually now down to, say, 2%, because of EOR, they could well jump to over 6% in a few years.  Lower oil prices in 2008 - 2009 will both increase demand and reduce supplies in future years compared with conditions that would pertain if oil had stayed above, say, $120.  New supplies from Canadian oil sands, for example, are already starting to be delayed because of lower oil prices, which will impact supply in a few years.

In short, we may see a range bound oil price for a while followed by sharply higher prices in two to three years, all of which is consistent with the recent mega-projects analysis that I recently

posted

.

Comments

[mangolfer:]

Sounds to me like it is going to keep free falling for a while. Everybody has exited or is exiting waiting for support to show up.

2008 Sep 17 10:53 AM

[ozzy43:]

This is devilishly difficult to determine with any precision, but I think this represents a fair minded and thoughtful stab at the beast. After all, Cantarell is declining at, what, 15%+? North Sea 10%+? If the global depletion rates come close to these, the far side of the curve looks to be a cliff. Who says the market is intelligent, rational? Perhaps a truly free market which priced in externalities properly would be, but ours - heavily regulated, subsidized and now increasingly nationalized - sure seems to be a dullard at times.

2008 Sep 17 10:56 AM

[Sober Realist:]

80-100 for the near term appears to be the general consensus among analysts. I would agree with that. Considering deep water drilling costs are at $95 per barrel and tar sands anywhere from 70 to 100. I just can't see the price dropping much more for very long.

2008 Sep 17 02:19 PM

[egoist:]

im agree with Realist, i cant imagine crude below even 50$/b but on the other hand couple of years ago i couldnt imagine oil above 100$/b.
now id like to emphasize only two thinks wich are read dont remeber where: 1) opec isnt trying hard to push prices higher cause of president elections in US - Obama, McCain sould not promise to reduce oil influence on US and 2) the fact that Russia started increase cooperation with opec - its already smells very bullish on longterm basis.

2008 Sep 17 05:49 PM

[G23ROCKS:]

Nice post. Of course, geopolitical events could take oil much higher in the interim.

2008 Sep 17 09:03 PM

[Ferdinand E...:]

Interesting and useful summary. Just what the doctor ordered.

2008 Sep 18 03:09 PM

[ValueInvestor:]

I just want to say your Headline is wrong. It should read Oil MIGHT Trade ... Of course Oil may trade between 80 and 100. May implies permission, and obviously the commodity is allowed to trade where ever it wants. Might implies probablility. I would think someone that writes articles would know better.

2008 Sep 19 11:05 AM

[manbearbull:]

wow this analysis was totally wrong...

2008 Nov 20 11:59 AM