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Oil prices plunged to their lowest levels in more than a decade earlier this year, but have since rallied by more than 70 percent from their February lows. Now oil is at a crossroads: the market is balancing, but not quickly enough. Oil traders are gaining confidence, but with oil trading at $45 per barrel, is the risk more to the upside or downside? Will the rally continue or will prices fall back again? And what about the long-term? Will today’s investment cuts lead to future shortages?
To get some answers to these questions, Oilprice.com decided to check in with Neil Atkinson, the Head of the Oil Markets Division at the International Energy Agency based in Paris, and also the Editor of the IEA’s closely watched Monthly Oil Market Report. He responded to some questions by email.
Oilprice.com: The adjustment in the oil markets continues at a steady pace, as the latest IEA April Oil Market Report notes. U.S. shale production is declining and demand continues to rise at about 1.2 million barrels per day. But supply continues to outstrip demand and oil sitting in storage is at record levels. With that backdrop, how do you interpret the rally in oil prices from below $30 per barrel to above $40 per barrel in roughly two months’ time?
Neil Atkinson: It can be argued that the sell-off to below $30/bbl was an over-reaction to the downside. The bounce back to $45/bbl is partly explained by the strike in Kuwait, production interruptions in Nigeria, UAE and Iraq, and the growing perception that US shale oil production is declining. The bounce back is also due to the fact that investors are more forward looking than they used to be and the possibility of the market returning to balance around the turn of the year is a supportive factor.
OP: The Doha agreement fell apart, but compared to prior meetings, oil prices barely budged. Are the markets getting used to expecting surprises from OPEC? What do you expect to see from OPEC in June? Related: It Isn’t Just ISIS that Is Destabilizing Iraq
NA: The Doha meeting was not an OPEC event. Everybody was surprised by the lack of an agreement but the Doha process was always more about bringing stability to the market rather than making a radical change to the supply/demand balance. An agreement would have seen little change to the supply outlook in 2016 as few countries attending the talks have the ability to increase production.
The IEA does not have a view as to what OPEC might decide in June. However, based on precedent, it would not be a surprise if many leading non-OPEC producers were to attend the OPEC ministerial meeting. The Doha process might yet have some mileage left.
OP: The oil and gas industry is making very large cuts in exploration, deferring billions of dollars of investment, which will result in millions of barrels of daily production that fails to come online several years from now. IEA Executive Director Fatih Birol has warned that today’s investment cuts are sowing the seeds of the next price spike. How do you see this playing out? Do you expect a supply crunch at some point? And when? 2018? 2019?
NA: The IEA has warned consistently that inadequate investment today could sow the seeds of a price shock tomorrow if there is a major change to the expected supply/demand balance. Towards 2020 there is the possibility that, if annual global oil demand growth were to exceed the 1.2 mb/d level forecast by the IEA and there was a geo-political event leading to a major supply shortfall, there could be insufficient spare production capacity to fill the gap. The resultant price spike would be detrimental for the world economy.
OP: Related to the previous question, can you imagine a scenario when oil prices surge back above $100 per barrel? What would that look like and how likely would you say that is to happen? Related: The Merger That Could Create a New Oil Major
NA: Almost certainly it would take an extraordinary supply interruption to see oil prices surge – your word – back to $100/bbl. Today’s record oil stocks will act for the next few years as a major dampening effect on oil prices. Also, any sustained increase in oil prices will encourage production from relatively high cost areas. Again this would dampen any sharp increase in oil prices. But past experience teaches us never to say never to an oil price scenario.
OP: The IEA projects that oil demand could rise steadily to above 100 mb/d by 2040. In order for the world to meet that demand, Iraq appears to be one country that is particularly important to the growth in supply. In the latest World Energy Outlook, the IEA has Iraq growing production from today’s roughly 4 mb/d to 7.9 mb/d by 2040. That is very large jump, and as far as I can tell, the largest increase out of any other country in the world. Given that Iraq has forced energy analysts to routinely downgrade their assessments of their future output, how confident are you in Iraq’s ability to boost production over the long-term? And what if they don’t?
NA: In fact, world oil demand could well reach 100 mb/d by 2020 and it will continue rising for many years to come! Iraq will be a major component of the supply increases needed to meet rising oil demand. Any estimate of Iraq’s long term production potential is necessarily speculative due to the political situation. However, with proved crude oil reserves at an estimated 150 billion bbls, there is a major resource base to support production growth. Related: Why China Is Really Dictating the Oil Supply Glut
If development in Iraq falters there will be a larger call on other countries with major potential, e.g. Saudi Arabia, Iran, and Venezuela within the OPEC group as well as leading non-OPEC producers. The uncertainties around what the world will look like in 2040 are so great that it is difficult to envisage how other oil producers will develop their industries in the meantime.
OP: The readers of Oilprice.com are largely market analysts, energy analysts, and investors, and as the website’s name suggests, they are concerned first and foremost with the oil price. Are there any signals they should they be watching for in 2016, other than supply and demand figures? Any black swan events that keep you up at night?
NA: At the IEA we focus on the fundamentals of supply and demand, and they currently point to a tightening of the market in late 2016. Your readers should subscribe to our Oil Market Report, if they don’t already do so, to see how our forecast evolve. Black Swan events can happen at any time and we can’t anticipate them, only adjust our outlook accordingly.
By James Stafford of Oilprice.com
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James Stafford is the Editor of Oilprice.com