Oil’s price has nearly doubled in the last four months, marking one of the greatest bull rallies for the commodity in the last 30 years. And with such a monstrous rally comes grand speculation that it will continue. Bloomberg reported this week that some hedge funds and large investors bought call options 2-4 years down the road betting on oil reaching $100 to $150… Certainly not out of the realm of possibility, especially as speculators shift from a focus on oversupply to a future supply shortfall, but we’re here to tell you the oil rally is near finished, at least for 2016.
Oil Price Prediction in 2015 & 2016
For some colour, take a look at our recent calls on the oil market. We’ve nailed many of crude’s inflection points over the last 18 months.
January 11, 2015 – The Orchestrator of Oil’s Collapse
December 13, 2015 – Why Oil Will Go Down Further
January 10, 2016 – Using Oil as a Weapon
March 13, 2016 – Secretly Saving Oil
Historically, oil rallies of this nature last approximately 150 days. We are roughly 120 days into this rally. Also, like clockwork, oil typically rallies into the 4th of July weekend, just in time for the summer driving season – no secret why. Consumers need it so producers charge more.
Global Oil Price & Positive Fundamentals
Fundamentals supporting rising prices are North American producers cutting output quickly and efficiently. Moreover, it won’t be a simple task to bring that output back online as the pundits recently predicted. With credit virtually closed to North American oil producers, likely for another year (at least), they have to rely on internal cash flow to boost production. Without producers taking on debt like they did in 2012-2014, America’s energy revolution is dead. So don’t expect shale producers to be the ones keeping a lid on rising prices as predicted by the media…
Another positive for the price of oil is that Chinese demand continues to increase. Despite fear mongering by American media outlets that China’s economy is a house of cards, consumer demand for energy and agriculture remains robust in the world’s second largest economy. Nevertheless, despite these positives, the rally in oil is nearing the ‘frothy’ stage.
Perfect Temporary Storm for Oil Price
The recent boost to oil’s price came following the disruption in production due to wildfires in Alberta, and the rise of the militant group Delta Niger Avengers…. They attacked a major Nigerian oil pipeline and production facility, which gave them a seat at the negotiating table with leaders of the Nigerian government.
The Delta Niger Avengers are responsible for oil output in Nigeria falling to a 20-year low as a result of their attacks (production down 600,000 barrels/day from Nigeria’s target).
According to OPEC’s latest reports, Nigeria’s oil and gas sector accounts for about 35% of gross domestic product, while petroleum export revenue represents over 90% of total export revenue.
To put Nigeria’s production decline in context, the African country was the 6th largest exporter of crude oil in 2015 and sent $38 billion abroad or 4.8% of the world’s total export market. Canada, for example, exported $50.2 billion or 6.4% of the world’s crude in 2015. So, a ragtag group of rebels are potentially costing the Nigerian government $19 billion on an annualized rate. And they’ve added at least 5-7% to the price of a barrel. Zerohedge.com surmised that Western interests may somehow be linked to the recent rebel attacks in a bid to boost the price of crude oil. While possible, it remains an unlikely scenario as Nigeria has had problems with rebels for years.
Reported by OilPrice.com, the latest statement released by the rebel group, which recently blew up one of Chevron’s wells, read:
“We are also behind the recent pipeline bombing in the Niger Delta region and I can assure you we will not stop until the Export Processing Zone (EPZ) project and the Maritime University are totally completed and start operations.”
“We would resist any attempt to give surveillance contracts of pipeline in our backyard to foreigners. We want the pipeline jobs to be given to our indigenous people.”
Oil has a tailwind of momentum pushing it higher right now, but the only truly sustainable positive for the price is China’s rising demand. Everything else responsible for the price action is seasonal or temporary. Even the Delta Niger Avengers have insinuated their attacks will cease if given a seat at the table (profit sharing). So, into July we expect sentiment and price action to remain relatively positive for WTI, but after that it will fade…
With a global surplus of 700 million barrels – the biggest in the history of the oil industry – don’t expect a sustained rally into Q3 and Q4 2016.
Global Oil Dictators Are in Dependent on Production
Countries such as Russia (currently in recession), Saudi Arabia (accumulating a record deficit), Iran (still in recession) and Iraq (war-torn) have little choice when it comes to boosting government revenue than to pump oil. All of these economies are desperately dependent on oil revenues to sustain themselves; and aside from the Russia and Iran relationship, they all hate one another.
In our Weekly Volume from January of 2015, titled The Orchestrator of Oil’s Collapse, we explained Saudi Arabia’s motives to crush the price of oil and, in doing so, run deficits while crippling its competitors. Both have come to pass as Saudi tactics have ensured OPEC’s refusal to come together and cut production.
While this theme dominated headlines in 2015 and early 2016, leading energy prices to their lowest inflation adjusted levels since the Berlin Wall came down in the 1980s, a new protagonist for a lower, not higher, oil price is set to emerge…
Don’t Forget Why Oil Collapsed Not Too Long Ago
Excess supply is what crushed oil initially. As the U.S. shale boom reached a crescendo and oil traded north of $100 per barrel in 2014, energy companies poured billions into exploration and higher output thanks to a credit bonanza. In 2015, the Saudis made sure that would not happen again this decade… In a bid to silence all competitors, the Kingdom flooded the global market with supply and reduced the U.S. shale sector to ashes.
In 2015, Iran’s sanctions were lifted and the country began ramping up production and exports. This added insult to injury for producers in North America as Iran’s exports increased to 1.75 million barrels/day in April; and it has a target to export over 2 million barrels/day by the end of this month. The country’s deputy minister Rokneddin Javadi said in April that production would reach pre-sanction levels (4 million barrels per day) by June.
The Saudis are anxious about Iran’s agenda and will fail to acquiesce the calls to cut production from its OPEC partners at future meetings this year. The Kingdom’s hatred for Iran runs deep, and its leadership would much rather indebt their own country than allow their greatest rival the opportunity to prosper by acquiring more market share…
With all that said, the most significant threat to oil prices in 2016 is not Saudi Arabia. It is Russia.
BP’s annual statistical review of world energy shows that Russia, “…became the largest oil exporter in the world in 2015 and remained the largest natural gas exporter.”
According to BP, oil production reached a new post-Soviet high (11 million barrels per day), while gas output fell (-1.5%) for the second consecutive year. This increase has unseated Saudi Arabia as the world’s largest producer and shines light on the reasons behind a refusal from the Saudis to cut production.
Russia’s increase would not rock the boat if it was a huge oil consumer, such as the United States, but the country exported 74.9% of its oil production, 33.7% of its gas and 41.8% of its coal, according to BP’s latest review. Being the largest oil and gas supplier to Europe makes its global geopolitical role all the more critical. Russia has Europe eating out of the palm of its hand… and for Putin, this is vital to sustain because he has just initiated an anticipated two-year campaign for re-election…
With protests once again increasing in Russia due to poor economic conditions, Putin knows it is important to quell the domestic uprising so to avoid the violence and negative global attention received during his last election, which sparked international cries of election rigging. What better way to do that than to boast about Russia’s rising prominence in global commerce and geopolitics. The Russians are a proud people and like to see their nation respected on the global stage.
Oil Supply Glut at Historic Levels
According to BP’s chief economist, Spencer Dale, there is a surplus of about 700 million barrels of crude – the biggest in the history of the oil industry.
Dale predicts about 50% of this excess supply is languishing in storage tanks and ships in developed countries; while the other half is stockpiled in developing countries such as China.
The 700 million barrel global oil glut will persist for several months still. This will keep a lid ($60 peak) on oil’s price for the remainder of 2016. However, when looking beyond the calendar year it is important to remember what the world’s top export product is, and will continue to be: Oil.
In 2015, crude shipments totaled approximately US$786 billion. While Tesla and electric cars dominate headlines, world oil demand quietly increased by 1.6 million barrels per day (1.7%) in 2015, one of the biggest annual increases in a decade.
What’s more, the IEA is predicting global demand to cross the 100 million barrels/day mark by 2018 and actually move into a supply deficit that year. If this happens, oil prices will likely retest $100.
On March 13, 2016 we wrote:
“Policy intervention and the politicization of the energy sector will lead to manipulation of the global oil markets (by the West) and concessions being made by Saudi Arabia. This, along with the supply glut easing, due to a lack of western drilling, will likely result in stabilization and modestly higher oil prices in the months ahead.”
At the time of that writing, WTI traded for approximately $38.50. This week it topped out near $51 – roughly a 30% increase.
If you entered the oil market around the time we called that price action (click here for our report) with the intent to make a trade, it may not be a bad time to take some profits and reload toward year-end. That said, we are bullish on the long-term outlook for oil’s price.
All the best with your investments,
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