Following the torrent of grim economic news flowing in from virtually all quarters, oil markets have somewhat recovered, rebounding into the 50s. There is now a growing chatter within the energy fraternity that the OPEC output cuts have helped stabilize oil markets and stemmed further decline.
Eyes are fixated on OPEC, could the grouping ensure still more compliance with its output cuts. Analysts are closely monitoring whether the OPEC is “walking the talk” on the envisaged output cuts.
So far it has succeeded in achieving around 80 percent compliance, leaving between 800,000 and 900,000 bpd still to be wiped off the markets. Better compliance and stronger demand should lead to a still firmer market in the second half of the year, OPEC believes, especially in view that the global crude demand could be firmer later in the year.
“It is inevitable that the oil market will tighten this year. The only question is when,” Ed Morse of LCM Commodities said last week at an industry conference.
Morse said he did not expect oil prices to go back to their previous heights “any time soon” yet he emphasized that Saudi Arabia and other players are ensuring to keep prices (at least) above $40 per barrel. Richard Jones, the IEA deputy executive director, also seem to be agreeing that the output cuts, together with colder-than-normal winter weather in major markets and the weakness of the dollar “have helped put a floor under the market price.”
And if OPEC compliance with the output regimen improves further, it would definitely remove a significant amount of oil from the market.
“Such a cut would likely tighten the market substantially by June. This could provide further support for prices,” Jones underlined, projecting oil demand growth would ultimately rebound with most of the increase coming from Asia and the Middle East. “We expect demand to recover and not before much longer, even if the growth is likely to be lower than in the previous decade,” he said.
“OPEC cuts are taking hold,” Adam Sieminski, chief energy economist at Deutsche Bank, also wrote in a recent research note. “Looking into the second quarter we believe oil prices are starting to find a floor.”
In the meantime, production in non-OPEC countries is also tightening. Deteriorating economic conditions have forced oil companies to cut back their exploration and production efforts. This is putting a dual squeeze on the market — impacting the market psyche too.
And the supply squeeze is getting manifested in various ways. During the first part of the year, crude oil stored at refineries, tank farms and other places in the US soared, often swelling by five or six million barrels a week, according to the US government’s Energy Information Administration. Now those gains have been cut way back. Last week it showed a gain of two million barrels, but the week before inventories in fact dropped by 200,000 barrels.
“All these are signs that the physical market is tightening,” underlines Nauman Barakat of Macquarie Futures, the trading arm of Macquarie investment bank.
However, despite the production squeeze, demand meltdown is definitely a constant strain on the markets, one could not argue. The numbers are terrible. February demand for oil in the US was at its lowest level since 1999, the American Petroleum Institute (API) reported. Diesel was particularly hard hit as freight shipments were slashed during the recession, dropping by a staggering 12 percent.
However, that’s not the whole story. Gasoline demand in the US actually rose 2 percent, which API said may be attributed to lower gas prices. And overseas much has been made of China’s drop in oil imports. But Barakat says, and he has a definite point, that those numbers may be misleading, as they compare to a period last year when the country was stockpiling oil ahead of the Olympic Games.
Keeping all the above, “you could make a compelling case for stability, maybe even higher prices” in the coming months, said Paul Smith, chief risk officer for Mobius Risk Group that secures energy contracts for producers and users of oil.
OPEC cuts and a pullback in investments are beginning to impact. Crude closed at $33.87 a barrel earlier this winter, and that’s likely the lowest one should expect for some time. In recent weeks oil prices have crossed the $50 a barrel mark, virtually for the first time since early January.
The up tick is largely due to the falling dollar, but the underlying fundamentals in the oil market also underline that the $30 mark is behind us — at least for now.
The OPEC seems contented with that, too, for the time being, saying in the given circumstances, the $50 plus market is not that bad one. Practical considerations and its limits finally seem to have overtaken the OPEC sentiments, too.