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Will Oil Prices Recover In 2015?

There seems to be a fair amount of consensus that oil prices will recover to $100 or thereabouts by 2020 (excluding your humble narrator), but next year is much more uncertain. Some pundits, like T. Boone Pickens, believe that it is all but certain that low prices now will lead to higher prices in the near future, as upstream investment falls and shale oil production especially experiences slower growth. Additionally, lower oil prices should provide some impetus to the global economy, raising demand if only slightly.

But I have to believe that these pundits are exaggerating the likelihood that prices will “recover”. It is astonishing, in the first place, that a price which is far above the historic norm is considered “low”. For some reason, commodity producers think that the highest price they’ve ever received should be considered normal; in the US, farmers always want the government to help them achieve “parity” or price levels from the ‘golden age’ of farming in the early 20th century.

Oil prices have rarely been above $100 a barrel, a total of 24 months out of 150 years, yet many pundits act as if those are the “normal” level. (In the DOE survey of oil price forecasts earlier this year, only two out of seven analysts expected 2025 prices below $100, one of which was me.)

The market balance next year is not expected to be improved from this year, if anything, it is likely to worsen. The IEA projects that demand for OPEC oil will decline slightly next year (about 0.4 mb/b) which, combined with an expected increase of 0.5 mb/d from Iraq (including Kurdistan) implies that the rest of OPEC needs to but back by nearly a million barrels a day. Of course, lower growth in US shale oil production and higher oil demand due to low prices could trim that by 0.5 mb/d, but the market is unlikely to tighten.

In other words, the best OPEC can hope for is the status quo, that is, no more pressure for someone (read: Saudi Arabia) to cut production. In the worst case, as much as a million barrels a day would have to come off the market, a large but not impossible amount.

But this all relies on a number of huge uncertainties. Will the “other OPEC” members see higher or lower production. Libya and Nigeria, especially, face uncertainties due to civil unrest which could reduce production by minor amounts. Venezuela has long been in a downward spiral, but a fairly gradual one. And Iran could easily see increased willingness from countries like India to buy its oil–but there’s no guarantee.

What would make traders think oil prices are due to recover, and thus buy into the market? Mostly, the obvious suspects: political instability in a major producer (Libya, Venezuela) that affects oil supplies leads the list, but a strong economic recovery might convince them that Chinese demand growth will again become a driving force in the market. Alternatively, a stronger than expected drop in non-OPEC supply, especially in US shales, would convince many that $70 a barrel is unsustainably low.

Personally, I don’t think strong demand will be a major factor, nor that shale oil production will prove anemic next year. The biggest likelihood for higher oil prices involves supply problems, especially in Libya or Venezuela, the former due to military conflict, the latter civil unrest, possibly including labor strife. However, I would be reluctant to base my futures’ strategy on this, and definitely not my corporate capital spending.

Published on:
December 8, 2014
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