Oil prices under pressure as US oil and gas output rises

Oil markets

SHARE THIS STORY

WTI Nov14

Just 10 years ago, then BP CEO John Browne shocked the oil industry by suggesting that oil prices might “temporarily” rise to $40/bbl due to an imbalance of supply and demand, before falling back below $35/bbl again.

Of course, prices in fact moved much higher, as policymaker stimulus in first the US and then the G20 countries created artificially high levels of demand.  But now the Great Unwinding of this stimulus is well underway.

So is John Browne’s forecast finally about to come true, that prices will retreat again below $35/bbl?

The key issue is that the world now has an energy glut.  The stimulus programmes temporarily boosted demand, but this was not sustainable.  Their lasting legacy has instead been to create a major increase in supply, as I discussed yesterday.  There are also clear risks that supply will remain in excess of demand for years to come:

  • Major economies such as India and Indonesia have ended their $bns of fuel subsidies on cost grounds
  • Indonesia has wasted $132bn over 5 years, more than total spend on social welfare and infrastructure combined
  • India wasted $23bn in just its last financial year – money which could instead have provided millions of toilets
  • China is planning a massive increase in distributed solar power networks to reduce current pollution levels
  • CO2 conservation efforts, and increasing fuel efficiency, are also both creating permanent loss of demand

And all the time, gas has been gaining market share due to its price advantage:

  • US natural gas prices peaked around $14/MMBtu in 2006 and then rose again to $13/MMBtu in early 2008
  • But since then, they have fallen sharply and are already back within their historical range around $4/MMBtu

Now oil prices are following the same course, having been far above historical levels for a decade as the chart shows:

  • Prices have averaged $22/bbl between 1946 – 2014 in money of the day (green line)
  • Adjusted for inflation, they have averaged $45/bbl in $2014 (blue line)

Many of the new US oilfields could already live with prices of $50/bbl.  And if some producers and/or pipeline owners did go bankrupt, then new owners could buy up the assets at fire-sale prices and restart with a zero-cost basis.

Equally important is that major Gulf Cooperation Council producers such as Saudi Arabia have very little debt.  They can continue supplying for several years at these price levels, as my colleague John Richardson highlights in this post.

In this context, it is therefore very significant that Saudi Oil Minister Ali al-Naimi has made no mention of any production cuts.  Instead, he told a conference yesterday, “Saudi Arabia does not set the oil price, the market sets the price,” adding “oil . . . for us, it’s a question of supply and demand, it’s purely business.”

OIL PRODUCERS RISK PERMANENT LOSS OF MARKET SHARE TO GAS
Of course, many “experts” still find it hard to understand why prices have been falling since the summer.  Their consensus view suggested oil prices could never fall below $100/bbl, just as the consensus had earlier argued that natural gas prices would be at least $6/MMBtu.  But as often happens, the consensus has been proved wrong.

The issue, as Bloomberg reported Tuesday, is that OPEC producers now have a simple choice. If they try to maintain current price levels, they risk permanent loss of market share to US and other producers, and to gas.  They could end up with little or no revenue in future years.  Instead their oil, like coal, would simply end up being left in the ground.

Logic suggests the real question is simply whether oil will hold the $45/bbl price level?  Or will, in the end, John Browne be proved right?  Will supply and demand rebalance nearer nominal price levels of $22/bbl?

The picture may well be clearer within a few months, unless geopolitics intervenes.  But in the meantime, many companies and investors have lost a great deal of money during recent price falls by simply following the consensus.  Had they done their own analysis, the likely impact of the Great Unwinding would have been immediately obvious.

The good news, however, is that it is not too late for them for them to avoid making the same mistake in 2015.

PREVIOUS POST

US heads for record oil and gas output

12/11/2014

Sometime over the next year, the US is likely to set a new all-time record for o...

Learn more
NEXT POST

China plans $90bn spend on new "Silk Roads"

14/11/2014

I am just back from my first World Economic Forum meeting, having been invited t...

Learn more
More posts
Oil prices start to reconnect with coal and gas
21/06/2020

Oil prices are finally starting to reconnect with other fossil fuel prices, as the chart shows.  It...

Read
Oil markets hit perfect storm as coronavirus cuts demand
01/03/2020

Former Saudi Oil Minister Sheikh Yamani’s warning in 2000 looks increasingly prophetic today: ...

Read
Oil markets hold their ‘flag shape’ for the moment, as recession risks mount
17/11/2019

Oil markets can’t quite make up their mind as to what they want to do, as the chart confirms. ...

Read
Oil market weakness suggests recession now more likely than Middle East war
11/08/2019

Oil markets remain poised between fear of recession and fear of a US attack on Iran. But gradually i...

Read
Recession risk rises as Iran tensions and US-China trade war build
26/05/2019

Oil markets are once again uneasily balanced between two completely different outcomes – and o...

Read
Déjà vu all over again for oil markets as recession risks rise
03/03/2019

Back in 2015, veteran Saudi Oil Minister Ali  Naimi was very clear about Saudi’s need to adop...

Read
Oil prices flag recession risk as Iranian geopolitical tensions rise
20/05/2018

Today, we have “lies, fake news and statistics” rather than the old phrase “lies, ...

Read
Saudi oil policy risks creating perfect storm for Aramco flotation
15/04/2018

Good business strategies generally create good investments over the longer term. And so Aramco need...

Read

Market Intelligence

ICIS provides market intelligence that help businesses in the energy, petrochemical and fertilizer industries.

Learn more

Analytics

Across the globe, ICIS consultants provide detailed analysis and forecasting for the petrochemical, energy and fertilizer markets.

Learn more

Specialist Services

Find out more about how our specialist consulting services, events, conferences and training courses can help your teams.

Learn more

ICIS Insight

From our news service to our thought-leadership content, ICIS experts bring you the latest news and insight, when you need it.

Learn more