Nick Cunningham: This oil price rally has reached its limit
EIA January (STEO) forecasts benchmark Brent and WTI crude oil prices to average $53 per barrel (b)
and $52/b, respectively, in 2017, close to their levels during the last three weeks of 2016.
This Oil Price Rally Has Reached Its Limit
Last week, crude oil rallied the most so far this year, gaining more than 8 percent, or $4 per barrel. Oil traders are much more optimistic than they were just a month ago, and the market is on the upswing. However, the rally could run out of steam in the not-so-distant future, a familiar result for those paying attention to the oil market in the last few years.
There are several significant reasons why oil prices have regained most of the lost ground since the end of May. First, the OPEC cuts continue to have an effect. We can quibble over the degree to which OPEC members are complying with their promised cuts, but the cartel is taking more than 1 million barrels per day off the market, with a small group of non-OPEC countries contributing about half as much in reductions. As time goes on, that will help narrow the imbalances.
Second, U.S. shale is showing some signs of slowing down . There are a variety of reasons for this, including fear of another price downturn, more caution from oil companies themselves and even a bottleneck in drilling services . But the bottom line is that we can't simply look at the shale rebound that we saw in the first half of the year, and extrapolate that into the future. There is a good chance that things start to slow down from here, and the market is starting to wake up to that fact.
Another reason oil prices bounced last week was because several OPEC members promised deeper cuts. Saudi Arabia said that it would cut exports by another 600,000 barrels per day. The de facto OPEC leader will also be specifically curtailing exports to the U.S., which will help drain inventories. In the ensuing days, the UAE and Kuwait have also pledged to cut their output further.
"Fundamentals continue to suggest a more-balanced crude-oil market," said ANZ. The bank, along with other investment banks, are eyeing the shift in the futures market towards backwardation – a situation in which front-month crude futures trade at a premium to oil futures further out. Backwardation tends to signal near-term market tightness, a measure of bullishness that the oil market has not seen in quite a while. Backwardation suggests demand is strong and it also signals greater inventory drawdowns are coming down the pike.
The final and arguably most important reason for the latest price gains is the sizable drawdowns in U.S. crude oil inventories recently, a tangible signal that the market is finally rebalancing. Last week saw the biggest draw yet, with more than 7.2 million barrels taken out of storage.
But even as the oil market is suddenly looking a lot tighter than it did in June, there are also reasons to believe that the rally is running out of room.
Inventories are still high, and not just in the U.S. Also, while shale is slowing down, the U.S. is expected to add more output. Then there are other producers outside of the U.S. adding new supply. "We believe the latest price rise is on a fragile footing," analysts at Commerzbank wrote in a note, pointing to higher forthcoming production from Libya and Nigeria. "I don't see the physical market getting all that much better. There's still a lot of crude that's unsold, still a lot of Nigerian barrels floating out there," John Kilduff, founder of Again Capital, told CNBC .
There are also reasons less to do with the fundamentals and more related to the financial market that point to limited upside potential. The surge in oil prices over the past month has corresponded with a shift towards bullish positioning among hedge funds and other money managers. But the net-long positioning, as Reuters notes , has more to do with a liquidation of shorts rather than a major accumulation of long bets. That may seem like a trivial distinction, but if hedge funds are not scrambling to buy up long bets, that suggests that they are not all that confident about further price increases in the near-term.
Meanwhile, the oil market probably needs a breather after the gains since June. Matt Smith of ClipperData cites the fact that oil prices have surpassed their 200-day moving averages, which will make it more difficult for crude benchmarks to move even higher. "From a technical perspective, it seems as though this rally should be done," Smith told CNBC .
The one variable that could upend all market forecasts is Venezuela, which has been in economic turmoil for quite some time but is entering a new phase of crisis. The involvement of the U.S. government, which is retaliating against Venezuela for what it argues is a step towards dictatorship, threatens to accelerate the oil production declines in the South American nation.
If Venezuela sees its exports disrupted in a sudden way, the ceiling for oil prices in 2017 could be quite a bit higher than everyone expects at the moment. Otherwise, there is not a lot of room on the upside for oil prices in the short-term.
Nick Cunningham is a Vermont-based writer on energy and environmental issues. You can follow him on twitter. Petroleumworld does not necessarily share these views.
Petroleumworld reprint this article in the interest of our readers and does not necessarily reflect the opinion of Bloomberg LP and its owners. All comments posted and published on Petroleumworld, do not reflect either for or against the opinion expressed in the comment as an endorsement of Petroleumworld.
All comments expressed are private comments and do not necessary reflect the view of this website. All comments are posted and published without liability to Petroleumworld.
Use Notice:This site contains copyrighted material the use of which has not always been specifically authorized by the copyright owner. We are making such material available in our efforts to advance understanding of issues of environmental and humanitarian significance. We believe this constitutes a 'fair use' of any such copyrighted material as provided for in section 107 of the US Copyright Law. In accordance with Title 17 U.S.C. Section 107. For more information go to: http://www.law.cornell.edu/uscode/17/107.shtml.
All works published by Petroleumworld are in accordance with Title 17 U.S.C. Section 107, this material is distributed without profit to those who have expressed a prior interest in receiving the included information for research and educational purposes.Petroleumworld has no affiliation whatsoever with the originator of this article nor is Petroleumworld endorsed or sponsored by theoriginator.Petroleumworld encourages persons to reproduce, reprint, or broadcast Petroleumworld articles provided that any such reproduction identify the original source, http://www.petroleumworld.com or else and it is done within the fair use as provided for in section 107 of the US Copyright Law.
If you wish to use copyrighted material from this site for purposes of your own that go beyond 'fair use', you must obtain permission from the copyright owner. Internet web links to http://www.petroleumworld.com are appreciated.
Copyright© 1999-2017 Petroleumworld or respective author or news agency. All rights reserved.
We welcome the use of Petroleumworld™ stories by anyone provided it mentions Petroleumworld.com as the source.
Other stories you have to get authorization by its authors.Internet web links to http://www.petroleumworld.com are appreciated.
Petroleumworld welcomes your feedback and comments, share your thoughts on this article, your feedback is important to us!
Petroleumworld News 08/07/2017
We invite all our readers to share with us
their views and comments about this article.
Send this story to a friend
Write to email@example.com
By using this link, you agree to allow PW
to publish your comments on our letters page.
Any question or suggestions,
please write to: firstname.lastname@example.org
Best Viewed with IE 5.01+ Windows NT 4.0, '95,
'98,ME,XP, Vista, Windows 7,8 +/ 800x600 pixels