Tuesday, 24 March 2015

Oil prices could be in for second crash

Crude oil prices may be set for a second crash as US shale drillers continue churning out more oil while US storage tanks begin to fill up.

Although a double dip in global crude oil prices might help consumers, it will frustrate oil producers as some, like Italy’s ENI, are already slashing dividends.

The story is essentially the same as in mid-2014. Oil supplies are overwhelming global demand as US drillers and OPEC producers stubbornly churn out more crude despite ever-lower prices.
 
The disparity between supply and demand has already led investors to push down the price of US-traded crude on West Texas Intermediate to a six-year low. At the time of writing, the WTI registered at $US44.04 per barrel.

The Brent crude price remains resilient at $US55.61, but could fall in the near future, according to the US Energy Information Administration (EIA).

But predicting crude price is no longer simply a case of watching production. Hedge funds and major investors are noticing US storage tanks filling up and are pre-emptively selling oil contracts rather than sitting tight and waiting for prices to dip again below a healthy return.

While many investor’s oil storage fear is based on good data – the EIA reported that US storage capacity is pushing over 60% in many place - US tanks are not expected to fill anytime soon.

The current high level is worrying investors and media alike because it is being compared to a 48% capacity seen at the same time in 2014. However, the EIA dampened investor’s fears pointing out that many US refineries are regularly taken offline during the spring for maintenance. This, says the agency, sometimes forces crude to be stored for a few months.

In other words, the weekly storage capacity may be unsustainably high and entirely seasonal.

Potentially exacerbating the storage issue, the International Energy Agency (IEA) raised its forecast for US production this year, after being surprised that an almost universal drop in the number of active oil rigs hasn’t yet cut production as expected.

“Stocks may soon test storage capacity limits,” the IEA said in its monthly report. "That would inevitably lead to renewed price weakness, which in turn could trigger the supply cuts that have so far remained elusive.”

Challenging the IEA’s report is news that while crude production remains steady, it could decrease in the near term as low global prices begin to take effect on North Dakota shale fields especially.

Production of crude in the US state already slipped 3.3% in January, according to the North Dakota’s Department of Mineral Resources. However, it’s not all bad news in the oil market. Drillers in the United States are certainly being affected negatively and some are downsizing or scaling back production, as in North Dakota.

But the low prices - and the expected second price dip - offers governments around the world a strategic opportunity to buy oil for reserves at half the price compared to 12 months ago.

According to the US Energy Department, the US government is set to buy 5 million barrels of oil for its strategic petroleum reserve. Essentially, the government is buying back every drop it sold in March 2014 when prices were high.

The US taxpayer is set to make a profit on oil stockpiles for the first time in years. China and India are also indicating they will take advantage of lower oil prices by stockpiling millions of extra barrels this year.

The IEA says the two country’s purchases, if confirmed, will add to global consumption growth which would in turn decrease the disparity between supply and demand and hopefully raise crude prices.

Weak Asian demand, along with a stuttering European recovery, was partly the reason behind the first dip in prices last year.

“Since oil prices began their rapid retreat last June, the import bills of oil-importing economies have declined. This has assisted governments in many of these countries in either adding to their strategic reserves or putting in place firm budgetary provisions to increase oil holdings,” the IEA says.

China revealed in November for the first time data on its stockpiles. According to government figures, the country now boasts 91 million barrels tucked into existing storage tanks with more space being constructed.

India isn’t nearly as advanced in stockpiling potential. Yet it is expected to stockpile 6.5 to 7 million barrels this year. Data from the Indian government suggest it could increase the country’s capacity to 28 million barrels by the end of 2015.

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