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Nick Cunningham

Nick Cunningham

Nick Cunningham is a freelance writer on oil and gas, renewable energy, climate change, energy policy and geopolitics. He is based in Pittsburgh, PA.

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This Oil Price Crash Was Just A Correction

Refinery

The oil market is “stretched to the limit” despite the fact that OPEC+ agreed to ramp up production following their meeting last month, according to the International Energy Agency.

The IEA said that the increased supply from Saudi Arabia, its Gulf allies and Russia is “very welcome,” given the series of outages reported around the world.

Oil prices plunged by around 6 percent on Wednesday on news that Libya’s oil export terminals were set to come back online. The IEA said that while the situation was improving “we cannot know if stability will return.”

Indeed, the sudden and unexpected outage from the North African country over the past few weeks illustrates the degree of risk facing the oil market, which is to say, if oil prices can swing by 6 percent on a given day because of the specific events in one rather unstable country, the market is pretty tight and pretty vulnerable.

A few other outages are adding to the tightness. Syncrude Canada suffered a 360,000-bpd outage in June, which was thought to last through July but could stretch into September or even October. A lesser-known 360,000-bpd decline from the North Sea was reported in May, a drop off that could last through the summer due to field maintenance. Also, Brazil’s production growth has been disappointing this year, and because Brazil is one of the most important non-OPEC countries after the U.S. in terms of expected output growth, less-than-stellar growth numbers leaves the market tighter than expected.

Related: OPEC Won’t Take Additional Action As Oil Prices Rise

Saudi Arabia and Russia ramped up supply in June, adding roughly 500,000 bpd together. But the outages in Libya, Canada, the North Sea, Brazil, Angola and Kazakhstan offset the gains from the two largest producers in the OPEC+ coalition.

The U.S. campaign to isolate Iranian oil exports is already starting to have an effect, even though the deadline for countries to cut their purchases of oil from Iran is in November. Iran’s oil exports fell by 230,000 bpd in June from a month earlier, and European refiners cut their purchases by 50 percent. The real danger to the oil market is if a large portion of Iranian supply is shut in this year.

“This vulnerability currently underpins oil prices and seems likely to continue doing so,” the IEA said.

“Some of these supply issues are likely to be resolved, but the large number of disruptions reminds us of the pressure on global oil supply,” the IEA wrote in its report. “This will become an even bigger issue as rising production from Middle East Gulf countries and Russia, welcome though it is, comes at the expense of the world’s spare capacity cushion, which might be stretched to the limit.”

The IEA says there are only three countries from OPEC that really hold spare capacity that is readily available. Saudi Arabia, Kuwait and the UAE had 2.1 mb/d of spare capacity in June. But because those countries are increasing output – a “very welcome” event – it will trim spare capacity down to just 1.6 mb/d in July.

“In 4Q18, US sanctions on Iran are expected to hit hard and Venezuelan capacity may spiral lower. To help compensate for the further unplanned declines and limit stock draws, Saudi Arabia could ramp up even more which would cut its spare capacity to an unprecedented level below 1 mb/d,” the IEA said.

“We see no sign of higher production from elsewhere that might ease fears of market tightness.”

On the demand side of the equation, higher prices are starting to be felt. Oil demand started the year at a blistering pace, growing at a 2-million-barrel-per-day rate in the first quarter, year-on-year. That has slowed dramatically. The IEA acknowledged the threat to the demand forecast from high prices, but did not alter its forecast for the full year. “[A]lthough there are emerging signs of reduced economic confidence, and consumers are unhappy at higher prices, we retain our view that growth in 2018 will be 1.4 mb/d, and about the same next year.”

Related: The Downside Risk For Oil

Still, the IEA noted several risk factors to this forecast. Demand growth at that level is predicated on strong economic growth, and the agency is assuming global GDP growth at 3.9 percent. The global trade war pursued by the Trump administration could upend that rate of expansion. “[I]ncreasing trade tensions could have a direct negative impact on economic growth, bunker fuel demand and diesel used by trucks for the transportation of traded goods,” the IEA said. “Tariffs could also affect the trade of oil and petrochemical feedstocks and products. Several countries are also feeling the pain of higher oil prices, particularly so when combined with currency depreciation versus the US dollar.” The agency expects Brent to average $73.50 per barrel this year and $73.60 in 2019.

With that said, supply risks are dominating market psychology right now. Oil prices crashed on Wednesday on news that Libya supply was coming back. But on Thursday, oil rebounded a bit after the IEA warned of market tightness and low spare capacity.

“The market’s move lower yesterday seemed quite extreme. It ignored the biggest U.S. crude drawdown since September 2016, and it’s recovering on that,” Warren Patterson, a commodities strategist at ING, told the Wall Street Journal.

By Nick Cunningham of Oilprice.com

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  • Brian Bresee on July 12 2018 said:
    This article reminds me of the type I was reading the day before that huge downward correction occurred yesterday.
  • Mamdouh G Salameh on July 13 2018 said:
    The recent oil price decline is not a correction. It is an enhancement of a remaining small glut in the global oil market bolstered by Saudi Arabia and Russia adding 500,000 barrels a day (b/d). Despite this, oil prices will resume their surge soon buoyed by very positive fundamentals of the global oil market.

    This only goes to show that the global oil market has not yet re-balanced completely. There is still a small glut in the market capable of taking care of outages in Venezuela, Libya, Nigeria, Angola and Canada.

    OPEC was wrong to let itself be persuaded by Saudi Arabia and Russia to agree to raise its production by 1 million barrels a day (mbd). There was no justification for increasing production. The proof is that oil prices have been hovering for the last two months around $73-$77 a barrel otherwise the price would have gone beyond $80 by now had the market re-balanced.

    Another factor pushing down oil prices was back-peddling by the US State Department from a tough policy of zero imports from Iran to the possibility of granting waivers for some countries to continue importing crude oil from Iran. The reason is that the overwhelming majority of nations of the world including US close allies the European Union (EU), Japan, India and South Korea are not going to comply with the sanctions.

    Furthermore, analysts and authors contributing to the oilprice.com should take on board comments by made by other experts reading their articles and stop parroting the same statements about US sanctions adversely impacting Iran oil exports. US sanctions against Iran are doomed to fail thanks to two things: the petro-yuan and the overwhelming rejection of them by the global community of nations with perhaps the exception of Saudi Arabia and Israel).

    Dr Mamdouh G Salameh
    International Oil Economist
    Visiting Professor of Energy Economics at ESCP Europe Business School, London
  • Frank on July 13 2018 said:
    Except that none of that is true. Fracking is still expanding like mad, US commercial stockpiles are more oversupplied than any point in history prior to 2015, and OPEC just guided the supply/demand ratio even higher for the next 18 months.

    It's far more likely we're nearing oil's permanent decline.
  • Disgruntled on July 13 2018 said:
    Demand is quickly approaching 100 million bopd (be there by the end of this year or early next) and there is a 1% - 2% capacity cushion. That's an oversupply? That looks like "just in time" to me. I keep harping on this, but take a look at the middle east rig count over the last decade or so. It has overall tripled, and the KSA has quadrupled. They are having to work harder and harder (spend more and more money) just to keep production flat. In other words, they need more money for their oil because not only must they support their people in the manner to which they are accustomed, but more and more money is being diverted to getting oil out of the ground which is less and less money for their people. The KSA cannot afford a restless populace. Oil prices are going up because they have to go up.
  • Tim on July 13 2018 said:
    Solid demand growth of 1.5mbpd this year and next year will eat away st OPEC’s reserve capacity, and prices will continue to surge to $80pb by end of year, despite Trump’s jawboning to the Saudis before the mid-terms, and hints of tapping the strategic reserve.

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