Reuters says oil is poised for the biggest weekly price gain in 4 years. But according to Citigroup, we have not seen the bottom of the price drop yet. Depending upon the expert prediction, oil is headed anywhere between $30 and $200 bbl. Who is right?
Low oil prices are causing concern around the world from Moscow to Tehran to Caracas to Riyadh to Houston. Even Canadian governments are beginning to get concerned.
Respected energy analyst and engineer Robert Rapier says that oil is unlikely to drop in price below $40 bbl in 2015. He expects a gradual recovery to higher prices in 2015. Overall, he is probably right, but we need more information about underlying conditions than Robert provides above.
Famed energy sage Leonardo Maugeri provides the type of nuanced background story that an interested observer needs:
Understanding the amount of new production capacity still being developed, it is essential to figure out the structure of the market in the coming years. As things stand now, the market has an excess supply capacity of more than 2 million b/d, that cannot disappear in just one year as a consequence of current spending cuts. Actually, output capacity seems destined to increase slightly. The only possibility for excess supply to be reabsorbed is a significant rebound of demand…
… the best American shale oil producers can weather the low-price storm by concentrating their operations only on their most productive areas of shale formations. From the data that I have collected, and am still collecting, the break-even point for these areas is often below $35 per barrel. Second, today’s break even points are destined to continue to drop. As I have explained in the past, they have been pushed ever lower by continued improvements in technology and knowledge of the shale formations. This has enabled cost reductions of at least 10% per year in the face of an enormous increase in the production of the individual wells. As a result, the unit net cost reduction has been much higher than simply 10%. The effects of these two factors in 2015 are yet to be felt…
… In addition to the support coming from technology, shale oil will likely be resilient to lower prices thanks to the upcoming fall of service costs, because contractors who actually perform the drilling, fracking, and so forth, will greatly reduce the fees for their services. This process is already under way, driven by the urgent need of the petroleum companies to cut costs and reduce investments. The convergence of all of these elements could noticeably improve the economics of shale oil for the better. __ Energy Intel (Leonardo Maugeri)
What about the possibility of an “oil demand rebound,” pushing prices higher? According to Maugeri:
The logic of economics predicts that low prices for oil will push demand up. This is probable, but there are elements that make it difficult to understand the possible size of any rebound, and there are some structural brakes.
First, wherever adopted, environmental and energy efficiency legislation reduces the elasticity of oil demand with regard to price, while in many countries of the world, young people no longer see the automobile as an object of desire. Second, the continued strengthening of the dollar against other world currencies is blunting the impact of the decline in petroleum prices, limiting the stimulus to oil demand.
Another decisive variable applies to countries that heavily subsidize petroleum consumption, mainly in Asia and the Middle East. These are the countries that have posted the greatest increases in petroleum consumption so far. If the governments of these countries take advantage of the low prices to cut price supports, as some have, the effect on demand would be dampened.
In conclusion, the economic factors that I have tried to summarize seem to conspire towards a given outcome: Petroleum prices will stay structurally low for a significant period of time. However, there are geopolitical consequences of low crude prices, which must be carefully monitored.
The fall of oil prices could induce political, even violent, instability in areas that are critical for world petroleum production, starting with the Persian Gulf countries but also elsewhere. If significant political crises were to strike key oil producing countries, prices of crude could skyrocket, even in the presence of a structurally weak market. __ L. Maugeri
In other words, supply and demand factors suggest that oil will stay below $100 bbl for a few years yet. But if ISIS or Vladimir Putin conjure bloody black swans out of their malodorous posteriors, prices could rise quickly.
If a pro-growth crowd of politicians is elected in the US in 2016, all bets are off. In that case, both demand and supply would almost certainly rise, and price volatility might be of an altogether different nature in a more capitalist environment of disruptive technologies and creative destruction.
How are North American oil producers reacting to the current climate of low oil prices? Stalwart energy journalist and analyst James Stafford at oilprice.com provides one insider’s viewpoint, an interview with Saturn Minerals’ President and CEO Stan Szary:
Stan Szary: … There’s a misconception that all of North America is a high-cost jurisdiction. That’s completely false. Canada has produced conventional oil at low cost for over 60 years. It’s a very healthy segment of our industry, but it doesn’t get a lot of media attention so there’s low awareness of how healthy a large part of the oil patch remains. The biggest winners will be those investors who are stepping into the market right now, investing in conventional oil stories. The best example of this is the Richardson Family, one of Canada’s richest families with $5 billion in assets, who last month purchased 11,000 barrels per day of production while the headlines are all so dire. Decisions like these are what have made them so wealthy….
Oilprice.com: Is this the end of the shale revolution, or just a temporary set-back?
Stan Szary: Ultimately, it will be a temporary set-back, but set-backs in the oil patch can last several years. Shale oil will be back with $70 oil. The world economy does not run without oil, and it will take a generation or more for alternative energy to start to change that. Our grandchildren will still need the energy oil affords, so everything will come back, eventually. __Oil Price
Al Fin energy analysts disagree slightly with Szary. For several shale oil plays, the breakeven cost is closer to $30 bbl than to $70. But Szary is correct that the long-term prospects of shale oil plays overall will be much better when oil prices rise to or above $70 bbl.
It is important to point out that even at $70 bbl, backward oil states such as Iran, Venezuela, and Russia will be unable to meet their budgetary obligations. Either they will continue to ratchet up their proxy war ventures — such as with ISIS in the middle east, or the criminals in East Ukraine — or they will be forced to reduce their foreign trouble-making and attend to business back home. It takes time to discipline the sort of criminals currently in control of rogue nations such as Iran, Venezuela, North Korea, or Russia.
It is best not to become too invested in the day to day or week to week fluctuations of oil prices. The “animal spirits” of oil traders can introduce a significant amount of artifact into short term price levels. If you focus on fundamentals — with the eyes in the back of your head focused on black swans from Russia, OPEC, or ISIS — you will be best equipped to deal with tomorrow’s oil prices.
Let’s face it, folks: Doomers such as Orlov, Kuntsler, Grantham, Cobb, Martensen, etc. failed to see what was right in front of their faces. As a result they are furiously backpedaling, or retreating into niches of paranoid propaganda (Orlov). Any admiration one may have had for such purveyors of hackneyed doom should have been well tempered — if not eradicated — by their perpetual failures to acknowledge obvious trends.
Compared with other global oil producing powers—Nigeria, Venezuela, Russia—the impact of lower prices will be much smaller in the U.S. Cheap oil will produce much less economic dislocation, much less disruption to federal revenue collections, and less political instability. __ Slate
Oil comprises far less of the economy in North America than it does in third world oil producers in Africa, Asia, and South America.
When it comes to predicting oil prices, the “fools rush in where angels fear to tread” quote comes to mind. Major turmoil in oil producing regions, short memories of high prices and suddenly robust global economy could prove me wrong. But I look for oil prices to stay in the range of $50-$100 a barrel for a decade or more, and probably more likely towards the lower end.
John Reilly is co-director of the Joint Program on the Science and Policy of Global Change at the Center for Environmental Policy Research at the MIT Sloan School of Management. __ USAToday
Careful observers should understand that a Russian-inspired war across the middle east — using its cats paws — could jolt global oil prices quickly higher. Long-time readers should be under no illusions regarding the oxymoron of “Putin’s scruples.”