16 July 2018 ( Lagos ) : As earlier stated, US crude production reached a record high level of 10.81mbpd (+790kbpd) as oil producers leveraged on higher oil prices with major increase coming from the shale production, mainly the Permian region. However, some concerns exist on the growth in US production in the near term. First, the Permian region, the key shale oil area, is experiencing pipeline capacity constraints, and is expected to lower wellhead prices for the region’s oil producers as well as have a dulling consequence on Permian’s full production potential.
Furthermore, the widening spread between WTI-Cushing and WTI-Midland crude oil prices signals the expectation for reduced drilling activity growth through the forecast period, which in turn is expected to slow the rate of crude oil production growth. Therefore, the main difference lies in the growth projections of the Bakken and Eagle Ford basins, wherein production growth hit a high in H1 18. This implies that production in these regions may have peaked or even start to decline in the coming period.
Furthermore, analysts believe US shale players will manage their rig count going forward in anticipation of Saudi Arabia pumping more oil, which may lead to a decline in supply. On balance, in line with EIA, they forecast US crude oil production to average ~10.8mbpd in 2018 (+1.4mbpd YoY) leveraging on higher crude oil prices.
In 2019 however, EIA forecast US crude oil production to average 11.8mbpd, driving concern on impending supply glut. Overall, global crude oil supply is forecast to average 100.4mbpd (+250kbpd) from current output of 100.11mbpd.
Budding sanguinity over global demand
On the demand side, growth is expected to come largely from the non-OECD region, particularly China and India, as structural changes, and restrained growth in the OECD region (particularly Europe) will keep demand subdued. IEA predicts that the fastest-growing source of global oil demand growth will be petrochemicals, particularly in the US and China.
According to the EIA, even though no U.S. companies are directly involved with Iranian companies, many European and Asian banks, insurers, and oil companies announced they might reduce commercial activity with Iran in light of potential U.S. sanctions. Sanctions will likely have a direct effect on the Iranian oil sector, which would limit crude oil exports and production from the country by the end of 2018.
For China, increasing refining intake, lower domestic crude oil production and additional crude oil for strategic storage purpose is expected to support demand, even as Chinese government raised refined products export quotas to its four state oil majors by 30% for the rest of 2018. More so, the EIA noted that China is set to add several propane consuming petrochemical plants, with the consumption boost from the sector assumed to add 55kbpd in 2018 and an additional 75kbpd in 2019.
Elsewhere in India, rebound in the economy with robust consumer spending and industrial activity will bolster the demand picture. Given that India currently imports 80% of its crude oil, the country is expected to be a key market for crude oil in 2018 and beyond.
Consequently, analysts forecast a growth of 840kbpd and 350kbpd for China and India to 13.6mbpd and 9.8mbpd respectively, which implies an overall increase of 650kbpd in global oil demand to 100.5mbpd over H2 18.
Crude Oil prices will remain stable at ~$70/bbl.
On balance, coalescing the demand and supply picture guides to a steady rebalancing in the oil market over H2 18, with an expected deficit of 100kbpd, largely reflecting resilience in oil demand, falling crude oil inventory, and expected shortfall in OPEC production, largely from Iran and Venezuela.
Also, growing geopolitical risks are likely to prop up the market rebalancing process. Based on the foregoing dynamics, analysts envisage the rebalancing process of the crude market would leave H2 2018 prices stable. Given the interpolation between changes in net supply and Brent crude, they update their crude oil forecast to $70/bbl.-$75/bbl. with a base case of $72.5/bbl. for H2 18.
Is $80/bbl. a line in the sand?
As stated, analysts expect the market to be mainly driven by the uncertainties related to supply. That said, considering the lag to supply shortages, they are of the view that upside potential for oil prices is limited. In fact, they think market has priced in the expected shortages and thus reduces the scope for further upside. However, a deepened geopolitical tension in the Middle East may put further pressure on supply.
The foregoing could send oil prices to $75 - $80/bbl. In fact, the combination of low crude oil inventory and spare capacity level heightens the possibility of higher crude oil prices in the event of a supply shortage or a lower than expected forecast in supply.
On the downside, weaker compliance to the agreement, faster than expected production from US, as well as slower demand growth could disrupt the rebalancing and send crude oil prices to $65 - $70/bbl. To add, the forward curve is in backwardation, suggesting lower prices in the future.
Reporting for EasyKobo on Monday, 16 July 2018 in Lagos, Nigeria
Source: ARM Securities Limited
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