Oil Prices Have a Slippery Path Upward
Oil prices may finally have stabilized, but hurdles to further gains remain
Oil prices may finally have stabilized, but hurdles to further gains remain.
After more than two years of a crude glut that drove prices to decade lows, analysts and industry executives see supply and demand of oil rebalancing next year. A deal between the Organization of the Petroleum Exporting Countries and other heavyweight producers to cut around 2% from global production in 2017 is expected to push prices close to $60 a barrel, a level not seen since the summer of 2015.
Market watchers expect prices to stay volatile, however, given OPEC members and other producers often haven’t followed through on similar agreements in the past. Higher prices may also encourage U.S. drillers to ramp up output, while a slowdown in global demand for crude could curb any rally, analysts say.
On Friday, West Texas intermediate crude closed at $53.72, up 45.03% for the year, the commodity’s best performance since 2009.
For now, industry insiders appear optimistic. “The mood has definitely turned more bullish, people are more confident that OPEC will do enough to rebalance the market in the first half of 2017,” said Adam Ritchie, a director of consulting firm Petro-Logistics SA.
That would be a welcome development for an industry that has been hit hard by lower prices. The oil-price rout has cost hundreds of thousands of jobs, strained the budgets of producers and led to delays or cancellation for dozens of multibillion-dollar projects.
Mr. Ritchie says, however, that the glut in oil stockpiles, which he estimates at around 1 billion barrels world-wide, will take a long time to drain.
“I don’t think people have fully grasped the scale of the excess inventory that has to clear, so the imbalance between supply and demand needs to be corrected dramatically and for a very long period of time,” he said.
A survey of 14 investment banks by The Wall Street Journal predicts that Brent crude, the international oil-price gauge, will average $56 a barrel in 2017. They expect West Texas Intermediate, the U.S. oil gauge, to average $54 a barrel in the year.
Oil prices fluctuated in 2016: Brent fell to a multiyear low of under $28 a barrel last January and struggled to breach the $50 level until the OPEC deal pushed prices higher.
One of the biggest challenges for oil prices in 2017 will be whether the countries that signed up to cut production will deliver on that agreement. OPEC members and suppliers including Russia struck a deal in early December to cut around 1.8 million barrels a day of crude starting in January.
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OPEC has a poor record of sticking to supply agreements. In 17 production cuts since 1982, OPEC members have reduced output by an average of just 60% of their commitments, according to Goldman Sachs.
“Until you start to see volumes come out of the market I don’t know that you can say this is anything beyond sentiment,” said Saad Rahim, chief economist at trade house Trafigura Group Pte Ltd.
With oil prices expected to firm, increasingly efficient U.S. shale drillers might present another hurdle on the path to rebalancing.
Some analysts have called the OPEC deal a gift to U.S. producers, which are generally seen as better able than their counterparts abroad to ramp up production in a hurry when prices rise.
“The issue OPEC has is it becomes a self-defeating mechanism—if they can cut enough to raise prices, all that does is incentivize other production,” Mr. Rahim said.
The number of rigs drilling for crude in the U.S. has been rising since the summer and the additional supply from their wells is yet to hit the market due to the lag between drilling activity and production.
Citigroup estimates that if prices rise toward $60 a barrel next year, U.S. production would increase to 9.2 million barrels a day by December and to over 10 million by the end of 2018. It is currently running at around 8.8 million barrels a day.
A sustained rally in prices also could curb demand for crude. Analysts already expect 2017 global oil consumption to increase at its slowest pace in three years. That is mainly as China limits its crude purchases and the stronger dollar, which recently surged to a 14-year high against a basket of other currencies, makes crude more expensive for foreign buyers. And as motorists start to feel the price rises at the pump, demand could slow.
Even if the market clears all its hurdles to higher prices, there are few predicting a return to $100 oil. In the summer of 2015, many of the banks in the Journal’s monthly survey were predicting oil prices would rise to more than $70 a barrel this year. Now, that level doesn’t seem likely until 2018.