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Why The Oil Rally May Well Be Over

Why The Oil Rally May Well Be Over

The oil markets could be about to enter another round of soft prices.

The OPEC decision on June 5 to leave its collective target unchanged was widely expected. As a result, oil prices barely flinched. But there are other reasons to think that oil prices could see a bit of a downturn in the coming weeks.

First, OPEC revealed in its latest monthly oil report that it is still producing well above its stated 30 million barrel per day target. Saudi Arabia’s output inched up another 25,000 barrels per day in May from the month before in a further sign that OPEC’s most important member intends to maintain a hard grip on its market share. OPEC is producing at least 1 million barrels per day (mb/d) more than its official target.

But another reason why oil prices could be in for a modest downswing is that other OPEC members are also stepping up. Related: Canadian Economy More Damaged By Oil Prices Than Expected

Iraq succeeded in boosting production by around 112,000 barrels per day for the month of May. There is potential for much more. Bloomberg speculated in late May that Iraq could boost oil exports to 3.75 mb/d this month, a 26 percent surge from its previous level. We may not know the exact numbers until more solid data comes in, but it seems pretty clear that Iraq is increasing production and exports.

Iraq has a goal of lifting production to 6 mb/d by 2020, a level of output that will require at least $10 billion in new investment, plus progress on improving security and infrastructure. It is far from clear whether or not Iraq will succeed in its objective, but the country is managing to achieve production gains in the interim.

Fellow OPEC member Libya could also surprise the markets with the return of some of its oil production. By the end of July, the war-torn North African country could see its output double to 800,000 barrels per day as it brings some of its pipelines and export terminals back online. Two major export terminals – Es Sider and Ras Lanuf – both located on the Mediterranean coast, have been offline since militant attacks damaged them in December 2014. Also, oil pipelines that have fed other ports have been shut because of worker-related protests. Related: Fossil Fuel Divestment Could Be A Red Herring

Libya’s National Oil Corporation intends on restoring service to a lot of this critical infrastructure, potentially boosting production by 200,000 barrels per day in the next few weeks, and ultimately up to an overall output of 800,000 barrels per day by July. Over the long-term Libya is seeking to reach 1 mb/d by the end of 2015 and 2.1 mb/d by 2017.

Yet perhaps the most important variable left to consider is the return of Iranian crude to the market. Iran has 40 million barrels of oil sitting in tankers offshore right now, awaiting a greenlight from the nuclear negotiations. The deadline for a comprehensive agreement with the West is the end of the month. A deal would not only set aside a major source of geopolitical tension, but the détente would also allow Iran to sell oil on the global market unimpeded by international sanctions. The 40 million barrels could be sold almost immediately after sanctions are removed, and Iran’s oil minister has stated that it could boost production by 500,000 barrels per day within one month, ramping up to 1 mb/d after another six months.

While Saudi Arabia has rightly been the focus of oil markets over the past few weeks, it appears to be the other members within OPEC that could spoil the oil price rally. Related: Global Oil Production Substantially Lower Than Believed

The world could be oversupplied by around 1 mb/d through the third quarter, even before factoring in potential Iranian crude. That doesn’t necessarily mean that oil prices will fall significantly below their current levels, but it does suggest rally above the low $60s may not be in the cards.

If a nuclear deal is sealed and sanctions are removed, barring other unexpected turmoil in the markets, expect oil prices to fall from their current levels.

By Nick Cunningham of Oilprice.com

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