From Todd Royal: The basic laws of supply and demand can easily cause the OPEC production cuts to not work, but there are other factors to also consider. These factors include U.S. shale production, political stability returning to Libya and Nigeria, the amount of oil sitting in storage and rising role of renewable energy.
U.S. shale producers were a leading factor in the 2014 oil crash because of how much oil they brought to domestic and international markets. Since then they have shed billions in unproductive assets and have lowered break-even costs, which means they can quickly start to replace supply that OPEC is attempting to cut. OPEC could be taking a huge risk betting against shale producers.
No one is as technologically experienced or has such large shale finds ready to be exploited like the U.S. OPEC will need 100% member compliance to ensure shale doesn’t keep oil prices lower than is currently being assumed.
There are approximately 30 oil-producing U.S states, and with a more energy-friendly incoming administration, pipelines such as the Keystone XL and Dakota Access are likely to be approved, leading to increased heavy oil flows from Canada and the Bakken. Has this potentially significant new amount of oil been factored into the production cuts causing prices to rise? It doesn’t seem it has.
Libya is ramping up oil exports after political reconciliations facilitated by the United Nations, and they are exempt from OPEC cuts. In the near-term, Libya could put 700,000 to 900,000 barrels per day on to the market. However, the Libyan government believes they can ramp up production to 1.1 million bpd by the end of 2017, which is a significant amount unaccounted for during this current trading uptick.
There are still challenges in Libya between the Petroleum Facilities Guard and the Libyan National Army, but even if these tensions endure, significant amounts of oil will be shipped to an already oversupplied European market.
Another complicating factor is Nigeria which has been trying to reach some kind of settlement with militants which have been bombing its oil facilities while trying to woo oil majors to raise investment and production. All of their internal problems aside, the African nation still produces around 1.6 million bpd with near-term goal according to President Buhari to reach 2.2 million bpd.
Another indicator that could put a damper on rising oil prices is the amount of crude currently sitting in storage. The U.S. has roughly 500 million barrels in storage, OECD nations have another 375 million barrels, and China has over 400 million barrels in storage while attempting to expand its reserves to 500 million barrels. At some point investors and the market have to account for this inventory.
The storage issue is further complicated by Supertankers used for storage. These massive vessels that are now parked from Singapore to Europe are under no obligation to report accurate supplies as well. They can be tracked by satellite and reporting done at docks and ports, but this makes for cryptic and volatile markets. For an investor or interested parties in the OPEC production cuts it should be understood how fast can this crude be sold on the market and how much it could affect prices.
Cheating on the production cut quotes by the likes of Iran, Iraq and potentially Saudi Arabia are other influences not being put into consideration by anyone who has a vested interest in oil reaching the $60-70 dollar per barrel range. If OPEC members fail to live up to production quotas, prices might fall much faster than anticipated as supply will continue to outpace demand.
With the Chinese economy now emphasizing stability over growth, and uncertainty about the growth prospects of the European economy, these large economies are reducing demand growth and this doesn’t bode well for oil prices rising in 2017.
Abovementioned are some of the issues that can cause oil to plateau before even reaching $60 a barrel. Every energy investor and interested party in fossil fuel’s stability wants to see job growth and geopolitical steadiness. Particularly, countries that depend heavily upon higher oil prices to fund their government budgets. Failing to understand the factors that can stall this rally could bring back a 2014 scenario that saw investors, companies and governments lose hundreds of billions of dollars.
The United States Oil Fund LP (ETF) (NYSE:USO) was trading at $11.54 per share on Thursday morning, up $0.17 (+1.50%). Year-to-date, USO has declined -1.54%, versus a +0.77% rise in the benchmark S&P 500 index during the same period.
This article is brought to you courtesy of OilPrice.com.