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This Week In Energy: Is This As Far As The Rally Can Go?

This Week In Energy: Is This As Far As The Rally Can Go?

Oil prices have surged to their highest levels to date this year, with Brent trading above $65 per barrel, and WTI close to $60 per barrel. The EIA reported this week that crude oil storage dropped for the first time in months for the week ending on May 1, falling by 3.9 million barrels. Weekly production has flat lined over the past month as well, and ticked down again this week. With production stalling out and maybe, just maybe, storage flows having reversed into drawdown mode, the supply picture looks tighter in the months ahead. That suggests prices could continue to rise.

While the rally since March has been impressive, it also seems to be running up against its limits for the time being. There are still some underlying fundamentals that point to weakness in the oil markets, perhaps throwing into question the sustainability of the current rally. For example, crude stocks in the United States are still at 80-year highs. There are tens of millions of barrels in the Atlantic basin – from the North Sea to West Africa – that are having trouble finding willing buyers. Demand is picking up, but the International Energy Agency and OPEC both say that the world is still pumping 1.5 million barrels per day more than what the world is consuming. That signals that the glut is not over yet. Related: Oil Price Recovery May Be Too Much Too Soon

Moreover, higher oil prices could bring drillers back to work. With thousands of shale wells sitting on the sidelines waiting for a brighter day, drillers may start to complete those wells now that oil prices are up. Several U.S. drillers including Pioneer Natural Resources (NYSE: PXD) and EOG Resources (NYSE: EOG), two big Texas drillers, said that they are considering a return to drilling if oil prices stabilize in the $65-per-barrel range. That, in turn, will bring a new rush of oil to the market, potentially forcing prices back down again.

On top of that, Iran’s Oil Minister Bijan Namdar Zanganeh said this week that his country could expand oil production within 10 days of the removal of sanctions, raising the prospect of new Iranian oil sooner than expected. For now, hedge funds and other big traders have been making bullish bets at a near record rate. But with the cracks showing, market sentiment could turn negative once again. Stay tuned.

Another oil train derailed in the United States this week, this time in North Dakota. The train, owned by Hess Corporation (NYSE: HES) derailed and caught fire on May 6. Fortunately, there were no injuries, but over 300,000 gallons of crude burned. The incident came only days after the federal government released new rules on crude-by-rail safety. On May 1 the U.S. Department of Transportation released new regulations that called for the gradual phase out of the older rail cars, as well as retrofitting cars with tougher brake systems. DOT also issued a speed limit on trains carrying oil. The industry criticized the rules for imposing steep costs, but environmentalists say the rules don’t go far enough. Crude loading onto trains in North Dakota also has to comply with state rules that mandate the processing of oil to remove volatile natural gas liquids. Hess stated that its rail shipment was “fully compliant” with those standards. Related: Is This The Top For Oil Prices For Now?

Tension in the Persian Gulf subsided this week after Iran released the Maersk container ship that it had seized. Iran insists the matter was one over debt, not a power move near the world’s most vital chokepoint for the oil trade. Fearing worse, the U.S. Navy sent destroyers to accompany other commercial ships through the narrow Straits of Hormuz. But after Iran released its captured ship, the U.S. Navy backed off. All sides likely breathed a sigh of relief. The tension had threatened to infect the nuclear negotiations, but has now blown over.

Saudi Arabia’s King Salman reshuffled the top leadership in his government, consolidating power by putting allies in key positions. King Salman changed the line of succession, which on its face appeared to create some degree of certainty. By making his nephew Mohammed bin Nayef the Crown Prince, and his son Mohammed bin Salman the Deputy Crown Prince, King Salman ensured a smooth transition for the next several decades. However, the moves may have been less about creating certainty in the royal line than about concentrating power within a small circle. Traditionally, the King has been the most powerful figure, but he has also had to bring other princes on board to support a given policy. But now his two successors are in top government positions that reduce the need to bring others into the fold.

The heirs head up matters of security, foreign policy, and the economy. That could reduce dissent for King Salman’s intervention in Yemen. In other words, the government reshuffling could allow King Salman a much more aggressive foreign policy. There are even murmurings that Saudi Arabia should pursue nuclear weapons for fear that Iran will eventually build one. Also, King Salman split up Saudi Aramco from the Oil Ministry, putting the state-owned oil company under royal leadership for the first time. It is unclear how that will affect Saudi Arabia’s oil policy, but now more than ever, decision making will be in the hands of the King. Related: This Deal Could Completely Change North American Energy Dynamics

In Alberta, a surprise election result is likely making oil Canadian oil executives sweat. The conservative party was ousted after 40 years of rule, and the left-leaning New Democratic Party seized power for the first time in history. The NDP has vowed to be less accommodating to the oil industry, keeping open the possibility of raising royalty rates, participating in climate policy, and dropping support for major pipeline projects. Oil sands producers saw their share prices plummet on the news. The devil will be in the details, but the result is seen as a major setback for the oil-rich province.

On the other side of the Atlantic, the oil industry saw a different result. The Conservative party in the United Kingdom won a landmark victory, surprising the world by winning by a much larger margin than polls had suggested. Prime Minister David Cameron will retain power, winning an outright majority. The results were widely seen as a boon to oil and gas producers in the North Sea as the Conservatives are much friendlier to the industry. Both Royal Dutch Shell (NYSE: RDS.A) and BP (NYSE: BP) saw their share prices jump after the surprise election result on the prospect that tax treatment will be more favorable than it would under any other British government.

By Evan Kelly of Oilprice.com

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  • John on May 09 2015 said:
    US oil production spiked in 2013-2014 because of shale drillers who on average need oil north of $80 to make a profit. US old production has fallen significantly since March and will continue to fall. Shale oil drillers will return when WTI oi breaks above $80 which will be in Oct-Dec 2015. In the interim this unfortunately will have a major impact on Texas and North Dakota oil companies.

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