Oil prices have surged more than 20 percent in the last two weeks but there is quite a bit of disagreement over whether or not the rally can continue.
The spark that created the bull market was the decision from OPEC to hold an unscheduled meeting in Algiers in September to discuss a production freeze. On the one hand, it would seem odd that OPEC members would once again go through all the motions and trouble of holding another meeting without a high degree of confidence that this time will be different. On the other hand, it has been years since OPEC was last able to agree to some coordinated action. One would think that oil traders would not be so gullible, but every utterance from Riyadh moves oil prices. Even if OPEC has little intention of agreeing to something substantive in Algiers, the decision to meet was enough to end the bear market and bring back the bulls. Maybe that was part of the plan.
The most that OPEC might agree to will be a production freeze, which as has repeatedly been noted by oil analysts, would have little effect on oil market fundamentals because most OPEC members and Russia are near their production limits anyway.
So the big question is what happens to oil prices after Algiers - and you will hear a different answer depending on who you ask.
Some analysts see more gains to come as the market makes plodding progress towards balance. Last week the EIA reported that crude oil inventories fell by the most in five weeks. Oil storage levels dropped by 2.5 million barrels to 521.1 million barrels, and gasoline stocks declined by 2.7 million barrels. And while the OPEC rumors deserve a lot of the credit for the recent rally, behind the political maneuvering is an oil market on the mend.
“These talks keep resurfacing every few months,” Amrita Sen, chief oil analyst at Energy Aspects Ltd., said on Bloomberg TV. “I’m not expecting any miracles. Outside of all these talks, fundamentals have improved markedly.”
That doesn’t necessarily mean that there are much stronger price gains just over the horizon, only that the gains that could see oil rise to $50 per barrel in the near future are much more defensible than previous rallies seen last year and earlier this summer. Related: Why Investors Shouldn’t Believe The OPEC Rumors
“For Q4, we think a $50 price by then is justified. We could see mid $50s or even $60 by the end of the year," Michael Cohen, head of energy commodities research at Barclays, told CNBC. Citibank largely agrees that oil prices probably won’t post substantial gains above current levels. "We're pricing a more constructive market. We think the price is about right now," said Edward Morse, Citigroup’s global head of commodities research.
"The forward [futures] curve is saying the price of oil is going to be in the low $50s next year, and we think it's going to be in the high $60s. At the end of this year, it should be sitting in a $50 range," he added. Morse says we are currently witnessing a “finely balanced market,” while the speed with which U.S. shale can swing back into action is uncertain.
But not everyone is convinced that the latest price gains are justified. It is still early, but the shale industry is showing some signs of nimbleness, and while that is not the same thing as being a swing producer, the shale patch could offer marginal production in short order. That could keep a lid on the simmering rally.
The rig count continues to climb, adding further momentum to the budding recovery in shale drilling. The industry has redeployed 76 rigs over the past two months, the sharpest increase since 2014. Also the EIA revised up weekly oil production figures, taking into account more accurate retrospective data. The result is that the U.S. has been producing some 150,000 barrels per day more than previously expected, an indication that shale production has been more resilient than many had thought. Iraq and Nigeria could bring production back, which would add to global supplies. Finally, even while crude oil and gasoline inventories are coming down they could still be too elevated to sustain further price gains.
"For me, if the rally fails at any point between here and $52, we could go all the way back down to $40, if not $38," John Kilduff of Again Capital told CNBC. “My thesis is the next washout is the one that gets these market producers to modify their behavior."
Barclays sees pitfalls ahead. "Oil prices will likely experience another short-term dip in the coming weeks," Barclays said on Monday.
By Nick Cunningham of Oilprice.com
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