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Dan Steffens

Dan Steffens

Dan Steffens is the President of Energy Prospectus Group (EPG), a networking organization based in Houston, Texas. He is a 1976 graduate of Tulsa University…

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Oil Price Spike Is Not As Far Away As Many Think

Oil Trading Floor

We are beginning to see the first real signs of the global oil markets moving rapidly back into balance. OPEC, which produces approximately 40 percent of the world’s oil supply, cannot meet future oil demand on their own.

• On May 11th the U.S. Energy Information Administration (EIA) reported that U.S. crude oil production declined by 206,000 barrels per day over the six weeks ending May 5, 2016.

• In the same weekly report:

o U.S. crude oil inventories unexpectedly fell by 3.41 million barrels during the week ending May 6, 2016

o Gasoline inventories declined by 1.231 million barrels

o Distillate stockpiles fell by 1.647 million barrels

• The International Energy Agency (IEA) say the annual summer spike in demand for transportation fuels has begun.

When the oil markets are oversupplied, the speculators which control the oil futures markets tend to ignore supply outages that they consider short-term. For example, the forest fires in Alberta that shut-in more than a million barrels per day of Canadian heavy oil products in early May did not seem to have much impact on the price of oil. As supply and demand move back into balance, an outage of that size will send the NYMEX strip prices sharply higher. The oil sands projects shut in by the fires are now coming back on-line, but it will take months before production is fully restored. Related: Oil Climbs Higher As Goldman Sachs Sees Glut Shift To Deficit

Nigeria has much bigger problems

On Friday, May 13 an explosion closed a second Chevron facility in Nigeria, Africa's biggest oil producer. The explosion was the result of an attack by militants who are upset with their government. 70 percent of Nigerians live on less than $1/day. They see the "Top 1 Percenters" living like kings, while they have trouble finding enough food to eat. Apparently, they have money enough for guns and explosives.

Exxon Mobil also reported on May 13 that a drilling rig damaged a pipeline, shutting off more production of crude. Nigeria's oil production was already down 600,000 barrels per day before these two incidents, primarily the result of militant attacks. Shell is now evacuating workers from its offshore Bonga oilfield following a militant threat. Shell's Forcados export terminal has been shut down since a February bombing. To say Nigeria is a mess is an understatement.

Adding to the country’s problems is the fact that they are over a year behind in paying invoices for oilfield services. Schlumberger Ltd. (SLB) has pulled personnel and equipment out of Nigeria, apparently tired of running up the bad debts.

Venezuela: Another OPEC nation on steep decline

Latin American oil production is now down close to 500,000 bpd from year ago levels.

On May 6, Bloomberg reported that Halliburton (HAL) has joined rival Schlumberger in curbing activity in Venezuela due to lack of payment during the oil industry’s worst financial crisis.

"During the first quarter of 2016, we made the decision to begin curtailing activity in Venezuela," Halliburton, the world’s second-largest oil services provider, said May 6th in a filing with the U.S. Securities and Exchange Commission. "We have experienced delays in collecting payment on our receivables from our primary customer in Venezuela. These receivables are not disputed, and we have not historically had material write-offs relating to this customer," the company said.

Halliburton’s receivables in Venezuela rose 7.4 percent in the first quarter to $756 million compared to the end of 2015, representing more than 10 percent of its total receivables, the Houston-based company said. If you own Halliburton stock, prepare yourself for a big bad debt expense later this year. Related: Saudi Arabia Loses Top Credit Rating from Moody’s

On the demand side of the equation, May is the beginning of an annual spike in demand for hydrocarbon based liquid fuels. In their monthly Oil Market Report dated May 12, 2016 the International Energy Agency (IEA) forecasts that demand will increase by 1.66 million barrels per day from the first quarter of this year to the third quarter.

If history repeats itself, the demand spike will be even larger. In 2010, the final year of the last major oil price cycle, the IEA began the year forecasting a 1.0 million barrel per day increase that year. Actual demand growth was 3.3 million barrels per day. The forecast error made in 2010 was that IEA’s formula for calculating demand, did not consider the impact of lower fuel prices on demand. I believe they’ve made the same mistake this time around.

Key points from the IEA report:

• Global oil demand growth for 1Q16 was revised upwards to 1.4 mb/d, led higher by strong gains in India, China and, more surprisingly, Russia. Russia had a cold winter and they still use a lot of oil for space heating.

• Oil inventory builds are beginning to slow in the OECD; in 1Q16 they grew at their slowest rate since 4Q14 and in February they drew for the first time in a year.

“Changes to the data in this month's Oil Market Report confirm the direction of travel of the oil market towards balance. The net result of our changes to demand and supply data is that we expect to see global oil stocks increase by 1.3 mb/d in 1H16 followed by a dramatic reduction in 2H16 to 0.2 mb/d.”

“We have left unchanged our outlook for global oil demand growth in 2016 at a solid 1.2 mb/d. However, for 1Q16 revised data shows demand growing faster at 1.4 mb/d, in spite of the northern hemisphere winter being milder than usual. This strong 1Q16 performance might raise expectations that demand will remain at this stronger level causing us to raise our average figure for 2016.” As you can see by this statement, IEA is already seeing the error in their forecasting model. Like most government agencies, they will never come out and say they screwed up.

During the first quarter, oil prices were under pressure from predictions that China’s demand for oil would soften this year. Chinese demand growth has slowed down from the rapid pace of the prior ten years, but it is still going up. This is thanks in part to sales of SUVs that are still climbing in China. Apparently the Chinese people are becoming more status driven (like Americans), owning an SUV in China indicates your family has joined the Upper Middle Class.

Per the IEA report, India is rapidly becoming the leader in global demand growth. Oil demand in India increased by 400,000 barrels per day year-over-year in the first quarter. Related: Does Tesla Care About Its Stock Price?

(Click to enlarge)

Conclusion: History Repeats Itself

I have worked in the upstream energy sector for 38 years. During my career the industry has survived six major and a few minor oil price cycles. It will survive this one because the products made from crude oil, natural gas and natural gas liquids (NGLs) are critical to the world economy. Our high standard of living depends on a steady supply of oil.

Oil price cycles do not end well. The big ones, and this is one of the biggest ever, overshoot the mark and result in a supply shortage. With OPEC now producing flat out, there is very little excess production capacity in the world. After the end of 2016, when oil supply and demand are back in balance, all significant supply outages (i.e. Canadian fire, Nigerian militants, ISIS attacks in the Middle East, etc.) will send crude oil prices skyrocketing. The Wall Street analysts that are saying we will never see oil over $100/bbl again will be eating those words.

Oil prices do not go up or down in a smooth line, as you can see in the chart above. Investors that can look past the short-term noise and invest in the best companies will harvest market beating gains as this cycle moves back to the long-term trend.

By Dan Steffens for Oilprice.com

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Leave a comment
  • Mick on May 16 2016 said:
    Dan:

    I want to thank you for being one of the few voices of clarity in a sea of ill-informed, outright gullible fools who told the World that we would never see high oil prices again. I may be alone in saying this but I can see a spike in 2017-18 which sends oil prices over $200/bbl, never mind 100/bbl.

    I have worked as a geologist/engineer in the energy industry for over 30 years and I can't believe the rhetoric that I hear coming from bloggers/analysts/frat house boys and pretenders who simply know nothing about geology/reservoir engineering/production engineering/facilities or marketing. Yet they pass themselves off as experts.

    In addition to the production problems you have mentioned, the other tropical storm forming (soon to be a hurricane) is going to hit us with steep and accelerating declines in shale oil production. I am predicting that within 12 months time U.S. production will be down to 7.5 million bbls a day. Perhaps that's when some of these frat house boys and day dream believers will discover that they knew a lot less than what they thought. Unfortunately the economic damage may have already been done. Just try and get by without oil and gas. Stay tuned.
  • Marc Johnson on May 17 2016 said:
    Dan

    You are preaching to the choir here. Your comments sound just like the ones I make to my wife everyday. I simply cannot believe these analysts are paid big bucks to pump out this misinformation. My advice to all the Wall Street houses would be to have their analysts discuss some of their thoughts with a few veteran reservoir engineers before they embarass themselves with predictions of oil below $50 for decades. On a related note, do you have any idea where Goldman sees the barrels coming from for their predicted inventory build in the first half of 17 ? They site Saudi Arabia, Kuwait, Iran and Iraq but I don't see where any of those countries have incremental barrels to add next year.
  • Phil Martin on May 17 2016 said:
    Its inevitable oil majors will seek to make up for their losses by continuing to cut investment in exploration and production and force the price to go to $200 a barrel.
    Add the obvious.
    Islamic state know Obama will never do anything to oppose them,so they wil be planning to launch some major offenses in the region against Israel,Iraq and Iran
    before he leaves office.
  • Matt Biddick on May 17 2016 said:
    Marc, Saudi Arabia, Kuwait, and Iraq, along with UAE and Oman, have never cut their rig count appreciably through this entire downturn. Certainly not like the rest of the world has done. I never could rationalize why that was unless they were trying to be sure they could keep their future production stable or possibly even increase it somewhat. Or maybe they drove the price of oil down to drive service prices down to conduct their drilling programs on the cheap (conspiratorial thinking, I know). One thing I think we can bank on is that they will want a fairly strong and quick return on their expansion so I don't look for them to "flood" the market with the resulting additional oil, even if they could.

    On a different note, it is my opinion that this thing was always about SA vs Iran. We are the recipients of unfortunate collateral damage of their economic war. SA needs the money probably worse than Iran. I didn't realize until recently that SA's military spending is behind only the USA and China, and ahead of Russia!
  • HKN on May 17 2016 said:
    It is a good article by looking other side of the medallion. However, although there is Nigeria turmoil, Canada fire and other shortages, there is Iran that is waiting to pump over a million bbl/day extra along with Saudi Arabia and Russia that are not willing to give up their market share. In my opinion, there is fight against supply to supply, rather than demand and supply. Price will be increased progressively and up downs in long term. Hence, I don't forecast price spike in such a short time as this article mentions unless more extreme situations than current ones occur.
  • Scott on May 18 2016 said:
    Where do you guys see Natural Gas prices going near to mid term? Right now still severely depressed and selling for just above $2.oo per MBTU. Thanks for any input.
  • Zorro on May 21 2016 said:
    Also we need to understand that hundreds of thousands of well paid oil workers and professionals are out of jobs and they don't have the extra cash to go on road trip this Summer. The demand for gasoline will not the same like other years.
  • Ozair on May 23 2016 said:
    transformation to renewable solar, wind, hydro and the production of bio fuels, GTL's etc. are the big impediments in the rally of oil plus the growing use of hybrid | electric cars will seriously diminish the demand of oil in the developed countries . the developing countries are resorting to LNG | Coal fired power plants thus reducing their dependencies on RFO which is a major product of crude oil slate depending on the demand.

    the producers are pumping and selling more and more oil to benefit from the demand in the intermediary period till all the projects not dependent on crude online. after that nobody will be there to talk about fossils and it will be a bygone past of history.

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