Despite all the talk about rising rig counts and the resilience of shale producers, the Energy Information Administration (EIA) is predicting that US production of both oil and natural gas is set to fall. In fact, for natural gas, this is a major event as this year will be the first time since the beginning of the shale revolution in 2005 that natural gas production would fall year-over-year. The prediction of falling gas production and to a lesser extent oil production, should have a chilling effect on the market and is potentially very bullish.
We need OPEC to comply with the recent production cut to help save US oil output. That is basically what EIA is saying as U.S. crude oil production that averaged 9.4 million barrels per day (MBD) last year is forecast to average 8.9 million mbd this year and to fall again to 8.8 mbd next year. The falling US output is a sign that despite higher prices, US producers have a long way to go to get back to 9.8 mbd high. The EIA does says that, “U.S. monthly oil production could increase more quickly next year if OPEC’s recent decision to trim its output pushes the price of oil above $50 a barrel, which would encourage more investment in U.S. regions that have tight oil production.”
The EIA is bullish on the demand side as, “A stronger economy in the United States and in other countries is expected to lead to higher global oil demand during 2017 than previously forecast, especially if major manufacturing regions continue to see growth.” The US held up its end of the bargain with record factory orders yesterday. “An increase in U.S. manufacturing is likely contributing to more distillate fuel consumption”.
The combination of lower US output and stronger demand caused the EIA to increase its price forecasts for Brent crude to $43 per barrel in 2016 and $52/b in 2017. West Texas Intermediate (WTI) crude oil prices are forecast to average about $1/b less than Brent prices in 2017. They say that the values of futures and options contracts indicate significant uncertainty in the price outlook. The NYMEX contract values for March 2017 delivery traded during the five-day period ending December 1 suggests that a range from $34/b to $71/b encompasses the market expectation of WTI prices in March 2017 at the 95% confidence level.The EIA also predicted that will break the record for gasoline demand this year.
The Energy Information Administration also said that, “U.S. natural gas inventories were at their highest level ever at the beginning of the current heating season, but stronger gas demand this winter and increased exports are expected to reduce natural gas inventories to more normal levels by the end of winter in late March.” The EIA said natural gas marketed production is forecast to average 77.5 billion cubic feet per day (Bcf/d) in 2016, a 1.3 Bcf/d decline from the 2015 level, which would be the first annual production decline since 2005. In 2017, forecast natural gas production increases by an average of 2.5 Bcf/d from the 2016 level.
Growing domestic natural gas consumption, along with higher pipeline exports to Mexico and liquefied natural gas exports, contribute to the Henry Hub natural gas spot price rising from an average of $2.49 per million British thermal units (MMBtu) in 2016 to $3.27/MMBtu in 2017. NYMEX contract values for March 2017 delivery traded during the five-day period ending December 1 suggest that a price range from $2.20/MMBtu to $5.04/MMBtu encompasses the market expectation of Henry Hub natural gas prices in March 2017 at the 95% confidence level.
The Wall Street Journal is reporting that, “Two U.S. exchanges plan to launch derivatives that could make it easier to trade shipped gas, potentially revolutionizing this market in the way that the Brent and West Texas Intermediate benchmarks did for crude oil," per those familiar with the matter. The moves by CME Group Inc. (NASDAQ:CME) and Intercontinental Exchange Inc. come as increasing shipments of liquefied natural gas from the U.S. and elsewhere have helped create a spot, or short term market, for this commodity, which is transported on ships in liquid form.”
Oil pulled pack yesterday on reports of record OPEC production and Russian oil output at a 30-year high. Today we get inventories that should bring us back. The American Petroleum Institute reported that US crude supply fell by 2.21 million barrels but we saw a astounding 4.01 million barrel increase in Cushing, Oklahoma. Gasoline stocks rose by only 828,000 barrels but distillates shot up by 4.08 million barrels. A mixed bag and await the EIA.
As we have said before, we believe that crude oil is headed towards $60 a barrel because of the OPEC production cut and weak US production growth. If OPEC and non-OPEC show some signs that non-OPEC countries will participate in a production cut, we could see $60 a barrel by the end of this month. If not, we should still head to $60 next year. If the EIA is right about global demand growth and I think they are, we could be talking oil in the 80’s next year. After 5 long bear market years in the overall commodity complex, the long-term cycle for oil has been playing out in what should be a generational bottom and should start to assert itself in the new year.
As for natural gas, if we stay cold we could see this market double in price. Falling output and record demand is the recipe for a price rally. Of course we need to see winter come in all its frigid glory or we may not see that big of a move. But it is possible.