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Michael McDonald

Michael McDonald

Michael is an assistant professor of finance and a frequent consultant to companies regarding capital structure decisions and investments. He holds a PhD in finance…

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The Wildest Predictions For Oil Prices In 2016

One reality in the markets is that despite the best efforts of analysts and traders, no one ever knows with any degree of certainty what will happen to the price of an investment in the future. Oil exemplifies that premise right now. All year there has been a tremendous amount of discrepancy in predictions for oil prices with some commentators looking for prices of $10 a barrel and others expecting prices near $100.

The median price predicted by analysts is around $46 a barrel for the end of 2016, but there is a lot of variation around that number. For instance, last year, noted economist A Gary Schilling suggested oil could fall to as little $10 a barrel. That proved to be a very prescient call – while oil hasn’t dipped quite that low, it did go down more than almost anyone expected versus last year. Even with prices rebounding some at this point, companies are not making money on oil at current prices. Instead they are continuing to operate in the hope that tomorrow will be better.

It’s not just individual economists who are concerned either. A couple of months ago, Natixis SA, a Paris-based bank lowered its forecast for crude in 2016 and 2017 on concerns about Iranian production increases. The bank believes crude will average $38 a barrel in the fourth quarter of the year with the world still drowning in oversupply. Related: Oil Prices Under Pressure As Global Supply Outages Diminish

Part of the recent oil bullishness has been driven by increased oil supply disruptions which Goldman Sachs among others sees helping to alleviate the daily production glut which has been a market reality over the last two years. Despite that, some analysts are still of the view that the current level of “high” prices could be short lived, with Saudi Arabia and Iran both preparing to ramp up production and the hit to output in Canada due to wildfires being quickly resolved.

What’s more, oil prices could be headed lower if the Fed raises rates in June. That scenario now looks increasingly likely thanks to inflation that is stronger than many have been expecting and an economy that is at least stable though not strong. Certainly by comparison to moribund Europe and the increasing problems on almost everyone other continent from South America to Asia, the U.S. is looking very strong. As a result, if the Fed hikes rates, it will result in a stronger dollar and a weaker relative demand for oil. BNP Paribas for instance is citing $50 oil as being too expensive, with oil having moved too high too fast. Increasing crude stock piles aren’t helping either. Related: Oil Glut Set To Worsen As Libya Unblocks 300,000 Bpd Of Production

Still there are reasons to be bullish about oil as well. Goldman Sachs has come out recently with a bullish call on black gold, citing major supply disruptions in Venezuela, Nigeria, and China which the bank believes will sharply lower production levels. U.S. rig counts are also still falling, with the number of oil rigs in the country down by more than half in the last year. In the short term, U.S. producers have been able to hold up production by drilling their best rocks, but that situation won’t be sustainable in the long run.

On the whole there are reasons to be bullish and bearish about oil, and there are plenty of analysts taking each side of the trade. Where the market goes from here though is anyone’s guess - so investors should be prepared for either eventuality.

By Michael McDonald of Oilprice.com

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