Crude Oil Prices Have Likely Peaked

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Includes: BNO, DBO, DBRT, DNO, DTO, DWT, OIL, OILD, OILK, OILU, OILX, OLEM, OLO, SCO, SZO, UBRT, UCO, USAI, USL, USO, USOD, USOI, USOU, UWT, WTID, WTIU
by: Simply Investing
Summary

Crude oil prices likely peaked for the near term in May 2018 with West Texas Intermediate (WTI) at $72.90 per barrel.

The crude oil market looks fairly balanced going forward and prices will likely fall a little further as the relatively high recent crude oil prices lead to further production gains.

Although crude oil prices will likely fall further, OPEC has little surplus capacity and any production disruption could cause prices to spike.

This article looks at the data provided by the June 2018 Short Term Energy Outlook, published by the US Energy Information Administration and analyzes the likely implications for crude oil prices.

Factors that influence crude oil price

Crude oil prices are influenced by many different factors and the relative importance of these factors change over time. The main factors that influence crude oil prices can be grouped into three broad categories:

  1. Inventories of global crude oil and petroleum products
  2. General expectations of future crude oil supply and consumption
  3. Differences between crude oil supply and consumption expectations and actual crude oil supply and consumption

Historical crude oil prices

Historical crude oil prices and the reasons for historical price movements helps to put the current price and outlook in perspective.

Crude Oil Prices

Crude oil price declined in the first half of 2017 as markets focused on high global inventories and increasing supplies from North America. As inventories began to decline in 2017, prices bottomed and then increased with WTI peaking in May 2018 at $72.90 per barrel. The WTI price closed Friday, June 15, at $65.06 per barrel. The June 2018 Short Term Energy Outlook price forecast and futures prices show a slow downtrend from current price levels to approximately $60 per barrel in 2019.

Crude oil inventories

OECD crude oil and other liquids inventories rose through 2014 and 2015 putting downward pressure on prices. In 2017, these inventories began to decline and prices increased. Crude oil production and consumption are now forecast to remain fairly balanced, keeping inventories in the middle of their historic range.

The forecast of more balanced inventories going forward minimize price pressures, both up and down.

Expectations of future crude oil consumption and production

World liquid fuels consumption is forecast to continue growing at a approximately 1.8 million barrels a day in 2018 and again in 2019, a little stronger growth than in recent years.

All other things being equal, stronger consumption growth, pressures prices upward.

World crude oil and liquid fuels production growth is forecast to accelerate in 2018 as North American production jumps by more than 2 million barrels per day. Production increases are then forecast to moderate somewhat in 2019.

All other things being equal stronger production growth pressures prices lower.

As the chart above shows, virtually all of the growth in Non-OPEC crude oil and liquid fuels production in 2017, 2018 and 2019 came from or is forecast to come from the U.S, with smaller increases in Canada, Brazil and Kazakhstan.

Combining the world liquid fuels production and consumption charts into a balance, shows that consumption growth has outpaced production growth for the last five quarters and prices reacted by increasing. Higher prices have lead producers to increase production in 2018, bringing the market back into balance.

The general expectation is for consumption and production to remain roughly in balance going forward with little price pressure either up or down.

Potential for actual production and consumption to differ from expectations

OPEC surplus crude oil production capacity is forecast to continue to fall in 2018 and 2019. Lower surplus capacity decreases the chance that OPEC will increase supplies and increases the risk that any supply disruption could lead to a spike in prices.

Brent crude oil prices serve as a global crude oil benchmark price and are well above WTI prices. The chart above shows how the entire futures curve has shifted up over the last year. Higher futures prices enable producers to lock in prices for future production and potentially invest in additional production capacity.

High recent crude oil spot and futures prices will likely lead to production increases above those forecast, putting downward pressure on prices.

Conclusion

Crude oil prices most likely peaked for the near term in May 2018. Following five quarters of inventory draws, the market appears to be fairly balanced now and going forward. Recent high spot and futures prices will likely lead producers in North America to continue to increase production, even above forecast increases, putting downward pressure on prices. While a slow decline in prices is most likely, low OPEC surplus capacity and political risks in a number of OPEC countries may offset some of this downward pressure and if these political risks come to fruition, there is some chance of a price spike.

Addendum

There are a number of sources of crude oil fundamental data including JODI, OPEC, IEA and the EIA. Each source has advantages and disadvantages, the EIA data was used in this analysis primarily because of its availability in the public domain.

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.