Oil Prices - An Irreversible Trend Or A Speculative Movement?
2016-01-21 13:40:00
On January 19th oil prices dropped to USD 28 per barrel.

A very low level not only compared to recent years but also on a 30 year trend.


Why this situation? Is this sustainable or a speculative movement?

We will try to answer the question looking at 1/ current situation 2/ trend on demand 3/ trend on offer and cost of production before 4/ drawing our conclusion.

1 / What is the surplus?

2.4 mbj as per eia at its in Q2 2015 and now gradually decreasing.

The reason is the increase in production from 2008 to 2014 in USA (+5.5 mbj) and Canada (+1.0 mbj) due to the exploitation of shale gas and oil (USA) and oil sands (Canada) which became profitable with the significant jump in oil prices (from about 30 dollar a barrel in 2003 to more than 120 in the second quarter of 2008). The increase in production was particularly strong in 2012 (+1.2 mbj), 2013 (+1.4 mbj) and 2014 (+2.0 mbj).

2/ What is the trend of demand?

About +1mbj per annum (+0.9 mbj per annum since 1980).

The trend is unlikely to change in near future.
With increasing global car sales (and electric vehicles still marginal) and increasing demand for energy we can expect the increase to continue.

As a matter of fact, the last 5 years do not show any sign of change in the trend albeit high prices. Demand increased by +1.0 mbj per year over the 5 year period 2011 - 2015 with an acceleration in 2014 (+1.2 mbj) and 2015 (+1.3 mbj).


3/ What is the trend on offer?

Producers in North America needs a barrel at about 70 USD to be economically viable.

During Q4 2014 when the price moved to about 70 USD (73) per barrel already about half of 20 major US / Canada oil producers focusing on domestic production went into losses.
During Q3 2015 when oil prices were just under 50 USD (46), out these 20 companies, all but 1 were making losses.


Production started decreasing in North America in 2015: after a peak in March 2015, oil production started decreasing in the US (-0.3 mbj in October 2015 vs. March 2015). Gas production reached its peak in September 2015 and slightly decreased in October.
As of January 8th, 2016 there was 650 rig operating in the US versus 1931 at its peak on September 26th, 2015 a decrease of two third.

Offshore production, in other part of the world, needs a barrel above 50.

More generally, oil producing companies around the globe, continue to cut drastically on investments, which will gradually result in a curb in production.

Only Iran is likely to increase significantly its production, even with a barrel below 50 USD, due the end of economic sanctions and very low cost of extraction.

4/ Conclusion

The surplus of offer versus demand will reduce much faster than expected as a significant part of production needs a price per barrel above 70 USD to be profitable.

As a result we can expect a sharp rebound of oil prices at a level of 70 USD in the near term.