Key Points:
- Global supply glut continues despite OPEC production deal.
- Technical analysis suggests further bearish pressure for crude oil prices.
- Watch for further price declines in the week ahead.
Crude oil has been the subject of endless speculation over the past month as the commodity has seemingly retreated in the face of a growing supply glut. Subsequently, many market commentators and pundits have provided forecasts in both directions for the embattled commodity. Therefore, let’s take a look at the various arguments and consider what the most likely forward scenario for crude oil prices actually is.
The Fundamental View
If you talk to large institutional traders and research teams, most seem to see crude oil rallying back towards the $50.00 handle in the remainder of 2017. There is a definite view that the market is largely overestimating the impact of the current negative headwinds and that the current round of pessimism must change over the medium term as the underlying fundamentals of demand continue to improve. In fact, demand might finally be starting to outstrip production if the latest IEA statistics are anything to go by. This is likely to be evidence that the OPEC production deal is starting to bite and could result in upward pressure on prices in the medium term.
However, there is scant evidence that OPEC is willing, able, and capable of doing what needs to be done to stabilize crude oil prices at a higher level. The fundamental view also largely discounts the fact that the rapid expansion of the U.S. Shale Oil Industry has irreparably changed the balance and global flow of oil. Subsequently, OPEC isn’t the cartel of dominance that it once was and this is impacting their ability to control output at any level.
Additionally, the Baker Hughes U.S. rig count has continued to rise over the past few months despite crude oil prices having been heading in the other direction. This is ample evidence of the efficiencies that the shale oil operations have achieved in recent years and the fact that their marginal extraction costs have continued to drop. In fact, it was only this past week that an actual drop in the rig count was seen and it remains to be seen whether this will become a trend or is simply an anomaly.
The Technical View
From the technical perspective, crude oil has traded within a descending channel for the past few months and this doesn’t appear to be changing any time soon. In fact, there has been ample evidence of numerous DMA “dead crosses” in the past month which have caught many retail traders by surprise and left them exposed. Subsequently, the best recovery we have seen was in the past few weeks where crude prices managed to climb by around $5.00/barrel before failing and recommencing a bearish leg. Subsequently, there seems to be little appetite by the wider market to support a robust bullish recovery. So it seems fairly unlikely that, as it presently stands, we will see a move back towards the $50.00 handle any time soon.
The Medium Term View
The advent of a wide range of Non-OPEC producers has fundamentally changed the fabric of the global oil market. The cartel is no longer the sole actor to consider in gauging production and output and this means that their production deals no longer have the same impact of years past. In addition, the rise of the U.S. Shale sector and their inexorable drive towards lower extraction costs and higher efficiencies now means that what was once “expensive” oil is now readily producible around current market prices.
The fact that we still have a significant oversupply of crude oil on the world markets is proof positive that the rebalancing process for the oil industry is not yet complete. In fact, there are some arguments to suggest that the OPEC production deal might have actually lengthened the process, and the pain, rather than allowing rapid rebalancing to occur.
Subsequently, the big takeaway is that shale oil is here to stay and likely to be a force to be reckoned with. Consequently, crude oil prices are unlikely to continue rising in the near term lest any such rise become self-defeating as additional U.S. rigs are returned to production. In fact, our near term modelling suggests that, instead of a challenge of the $50.00 handle, we might actually see a challenge to the key $40.00 level. Regardless, crude prices are stuck in a rut presently and this is unlikely to change over the medium term unless some rapid supply rebalancing occurs.