Why the oil price is now in a bear market

Oil Barrels

The price of crude has slipped into bear market territory this week, despite Opec’s attempt to boost the price ahead of the flotation of Saudi Aramco. What caused it – and will it reverse anytime soon?

Crude oil prices are once again in a tailspin, on concerns that the global glut of oil is not going away. There is simply too much oil in the world, and the laws of supply and demand dictate that this means prices will weaken.

The glut is occurring despite agreements by Opec to limit output. Saudi Arabia needs a relatively high oil price in order to guarantee a successful flotation of its state-owned oil behemoth Aramco next year. Despite the cartel’s effects to reduce output, prices remain weak, despite a larger-than expected drop in US inventories this week.

The U.S. Energy Information Administration said crude inventories declined by 2.7 million barrels in the latest week, exceeding expectations for a 2.1 million-barrel drop. This data supported prices only briefly. Despite the fall, US inventories remain stubbornly high and are showing no sign of falling fast. Indeed, the International Energy Agency’s (IEA) latest monthly market report noted that oil stocks in OECD countries rose again in April – and are now 292 million barrels above the five-year average.

The US continues to expand the number of rigs in the country. According to data from Baker Hughes, oil companies have rented a further 530 drilling rigs since the end of May 2016 and crude and production is rising, especially in unconventional oil such as shale.

Libya, Iran and Nigeria were excluded from the Opec agreement to cut production and all have increased production. In Libya, oil production has increased three-fold over the last year, despite considerable strife in the country, which has two competing governments and numerous militia factions. There are expectations that production will continue to rise. Nigeria’s oil production has risen sharply, with exports of 2.02 million barrels per day (bpd) on 67 cargoes currently scheduled in August. This would be a 17-month high.

Iran’s oil minister, Bijan Namdar Zanganeh, said this week that Opec may decide on further output cuts, blaming the US for continuing weakness in the oil price.  Both China and the US are increasingly moving towards using domestic supplies instead of importing oil from countries such as Saudi Arabia.

Demand for oil is still rising, with the IEA forecasting global oil demand will rise by 1.3 million bpd this year and by 1.4 million bpd in 2018. This is bigger than the rise in global production, so the glut should work its way out of the system eventually. However, these demand forecasts are forward-looking predictions – and, as such, these could fall if the global economy slows or derails.

US producers continue to pump as part of the country’s plan to become self-sufficient and Opec may need to cut its output further. But there are questions over compliance, as Opec members have a history of ignoring quotas. This situation implies that the oil price could remain weak for some time.

 


The above article  was first published by Charles Stanley on 22nd June 2017.