Oil prices have been showing signs of weakness in recent days as concerns over excess supply are starting to crop up once again, potentially slamming the brakes on an almost two-month period of optimism stemming from the OPEC deal.
For a while, there were fears over OPEC’s sincerity in regard to the promised 1.2 million barrels per day in output reductions. While compliance won’t be 100 percent, Saudi Arabia is trying to single-handedly tighten global oil markets by cutting more than it promised back in November. Saudi output is down below 10 mb/d and could decline further in February as OPEC’s leading member takes on the largest burden of adjustment.
While that news should have provided a jolt to oil prices, oil traders were likely spooked by much more damning data that came out of the U.S. in recent days, which pointed to a sharper rebound in U.S. shale than many had anticipated at this time of the year.
The EIA produced some profoundly bearish figures for oil in its most recent weekly report. Crude oil inventories jumped by 4.1 million barrels in the first week of January, further evidence that inventories will not converge back to average levels anytime soon. On a more positive note, refining runs surged to 16.753 mb/d, a significant increase in processing from the prior week. That points to stronger demand from U.S. refiners, which could presage more substantial crude inventory declines in the weeks ahead.
However, it is not clear that the demand for refined products is high enough to justify more action from refiners. For example, gasoline inventories also climbed last week by a steep 5 million barrels, suggesting that refiners are merely processing crude and dumping excess gasoline into storage.
Perhaps the most bearish figure of all was the weekly upstream production figures. The EIA estimates that U.S. oil output jumped from 8.77 mb/d in the last week of 2016 to 8.946 mb/d for the week ending on January 6, an increase of a whopping 176,000 barrels per day in a single week. Now, to be clear, there are some reasons to treat this figure with caution. First of all, it is only one week’s worth of data; one data point does not make a trend. Second, weekly EIA estimates are less accurate than the retrospective monthly production data that the agency puts out. But those monthly figures are published on a several month lag – the most recent monthly data only runs through October – so the weekly estimates are the best we have. Related: The Math Doesn’t Add Up For The OPEC Deal To Work
So, assuming that the latest production figures are not wildly inaccurate, then they indicate that the past six months of sizable gains in the rig count are already bearing fruit. Production is now up roughly 400,000 bpd from a low point hit at the end of last summer, with the sharpest gains coming only recently. Production gains often lag behind increases in the rig count as it takes time to deploy rigs and drill new wells. With the rig count up by more than 200 rigs since a nadir last May – an increase of more than 65 percent – drilling has obviously been on the upswing. It would not be surprising then if overall U.S. oil production continued to climb in the weeks and months ahead.
Meanwhile, in a separate report, the EIA revised up its projection for U.S. oil production for 2017, predicting output will grow by 110,000 bpd instead of declining by 80,000 bpd, which was last month’s forecast. Based on the weekly gain in the first week of January of a massive 176,000 bpd, the EIA might be forced to issue some more upward revisions in subsequent reports over the course of this year.
In short, the U.S. is pouring cold water on the OPEC-fueled rally that began in December. In recent articles, we have covered the extraordinary buildup in bullish bets on behalf of hedge funds and other money managers, a stockpiling of net-long positions that has helped edge up oil prices. But the bullish bets have recently come to a standstill, with a move towards a more net-short direction in the most recent data. All it will take is some bearish news – like the EIA data – to spark an unwinding of the long positions. That could induce more losses for WTI and Brent. Related: SpaceX’s Next Act Is A Critical One
Moreover, a few pieces of data coming out of China also do not bode well. China did post strong increases in oil import demand in 2016, but cracks in the Chinese economy are becoming visible. Overall exports declined by 7.7 percent last year, a sign that GDP growth could continue to slow. Also, China continues to ramp up exports of refined products, adding to the global surplus.
"China right now seems more interested in keeping capital in the country than focusing on growth overall," Phil Flynn, analyst at Price Futures Group, told Reuters. "We have to watch this situation develop because this is one threat to what is an otherwise wildly bullish scenario for oil in the coming year."
By Nick Cunningham of Oilprice.com
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