Bad news Alberta - stagnant oil prices are potentially here for a long time; multiple forces in play suggest this. Stability and low prices offer relief for consumers and businesses, but oil-dependent parties and organizations will need to adapt to the new reality.
An unofficial meeting between OPEC members on Wednesday September 28, 2016 showed some promise that a supply reduction was on the table, however the cut drops oil production to 32.5 to 33 million barrels per day, from the estimated 33.25 million currently being drilled. Although it is just a hair cut, it triggered a 6 per cent rise in the two sessions following. Prices are now back hovering near $50 a barrel again. That sounds great, right?
Well, these knee-jerk reactions allow non-OPEC members to re-enter the market even momentarily and elevate supply, a concern that plagues the industry. This has and will continue to counter any major bullish move in oil prices for years as long as OPEC maintains its strategy of capturing market share.
Take for example the promising run-up in oil prices in June and July of 2016 which created a pivotal situation. US oil rigs were moving conversely to crude prices. CNBC reported that when oil had reached $50 that spring, US oil rig counts were at their lowest. However, as they started going on line, persuaded and incentivized by higher prices, crude fell again back to $40 due to larger supply.
Unlike most consumer goods, oil and commodities are typically traded through futures and forward contracts. Producers secure prices months or years in advance. So, when oil surged for just one week, dozens of rigs were able to lock in $50-plus oil revenue.
According to the U.S. Energy Information Administration (EIA), in 2015, an estimated 93.88 million barrels of oil are consumed per day and supply amounts to 95.72 million. Even with the reduction by OPEC producers of at most 750,000 barrels per day, there is still more oil being supplied than consumed and nearly an additional 3 billion barrels of oil sitting in inventory as of year-end 2015; this represents 32 days of oil coverage (if all producers closed operations).
OPEC maintains its stance. It wants to capture global market share however it appears its strategy has changed with ministers in Saudi Arabia having been swapped. They are more inclined to support prices at current levels than to allow it to drop back below $30 - a price that still is profitable for OPEC members. We must acknowledge that prices around $70, what many consider the most efficient oil price in America, would be a level that introduces significant competition. The United States is number 2 in oil production and OPEC, to remain consistent with its strategy, must ensure prices do not reach that level for years to come.
Oil is also traded in US dollars and therefore, strength in the currency will reduce the price of oil in relation. Since the US Federal Reserve is looking to increase borrowing rates, which in turn increases the value of American currency, this does not bode well for oil prices. All things being equal, gains in the greenback as a result of interest rate hikes, increases in American investments, or economic growth reduces the price of oil in American dollars.
The current environment and conditions do not favour a sustained bullish move for oil and sweeping changes and renewed sentiment of oil ministers and OPEC will continue to keep prices at bay for many more years. Regardless of the tactics of the speculators that exist in the trading pit for energy derivatives, the reduced interest in oil trading only elevates the accurate pricing of supply and demand. And it appears that $45-50 US is where it will remain.
