How will oil prices trend going forward given its recent wobbles? To answer that, an important point of consideration is the fact that not all oil is the same, and that there are differences and imbalances between heavy and light crude oil markets. OPEC produces a heavier and more sour form of oil while the US, Libya and Nigeria produce lighter and sweeter varieties. This fundamental difference is hence leading to tighter supply conditions in the medium sour market with a glut persisting in the light sweet market, according to S&P Global Platts. The disparity does however present a dilemma for OPEC. We believe pressures on oil prices will persist but will eventually balance out at around the USD50/bbl levels, which we reckon is enough for oil majors to restart their capex plans considering the lower cost of production and better efficiencies attained in recent times. Analysing WTI and Brent’s futures trades to find signals suggests an average towards USD50/bbl for 2017. We maintain that the O&G industry is more focused on robust activity at stable oil prices rather than very high oil prices at this juncture which is not sustainable. Our average Brent oil price levels are estimated as follows: 2017 – USD50/bbl and 2018 – USD55/bbl.
OPEC’s deeper cuts will tighten the medium sour market further, but would have diminished effects on global oil prices which are seemingly more closely linked to light oil varieties. OPEC produces a heavier and sourer form of oil while US, Nigeria and Libya’s are light and sweet. The fundamental difference is therefore leading to a tighter supply condition situation of the medium sour market while a glut remains for the light sweet market based on S&P Global Platts. Also, global refiners are switching to lighter forms of oil to take advantage of abundant supply, meaning that OPEC risks losing more customers if it makes deeper cuts. EIA forecasts OPEC crude oil production to average 32.3mbbls/day in 2017 and for 2018 at 32.8mbbls/day.
OPEC is also facing the conundrum of prices or market share. The oil cartel must either choose between fighting for market share by raising production or stabilising prices by maintaining cuts. Attempts to curb US shale out of the market have had muted effects though it has somewhat rescued oil prices from falling. Now, OPEC needs to choose one course of action otherwise they are looking at longer-term erosion from lost market share and less favourable revenues. The cartel is contemplating putting a limit on how much oil Nigeria and Libya can pump, as rising production from these exempted countries have complicated plans to influence crude prices. Libya broke new highs for the year, with production at 852,000bbls/day (+127,000bbl/day). Nigeria’s supply is also increasing to 1.7mbbls/day (+96,700bbls/day). We are concerned on OPEC’s motives as its main-leader Saudi Arabia according to secondary sources saw its output jump 190,000bbls/day to 10.07mbbls/day above the 10.058mbbl/day ceiling, thus above its quota. For 2018, OPEC sees non OPEC oil supply growing by 1.1mbbls/day, higher than the 800,000bbls/day growth expected for 2017, to average 58.96mbbls/day.
OPEC reports global oil demand growth for 2017 is c.1.27mbbls/day to average 96.4mbbls/day. In 2018, world oil demand growth is c.1.26mbbls/day, marginally lower than this year, and broadly in line with the average growth trend over the last 5years to total 97.65mbbls/day
We remain Overweight on the sector based on oil prices stabilising. Our estimates are premised on the average YTD oil price at USD52.3/bbl for Brent and its futures for 2H17 at USD49.0/bbl to balance the year at our estimated USD50/bbl price for Brent in 2017. We opine the industry is more focused on robust activity at stable oil prices, rather than very high oil prices at this juncture which is not sustainable.
Middle East rift. The saga between Qatar and the Saudi-led Arab states continues, with Doha rejecting the full list of 13 demands, deeming Saudi’s measures for restoring relations with Qatar as not viable. Qatar’s Finance Minister, Ali Sharif al-Emadi has stated that the world’s largest liquefied natural gas (LNG) exporter has enough resources necessary to weather the sanctions. We do not expect geopolitical tensions in this region to be resolved in the near term, which could potentially swing oil prices overnight.
Underestimating demand. Rising demand could be seen coming from Asia in particular, as lower prices of oil would likely lead to higher crude purchases from this region, thereby minimizing the fear of too much oncoming supply. When looking at demand, we are focused on passenger vehicles, but overlooking the role that heavy trucks and freight. Oil demand from trucks since 2000 have contributed 40% to global demand growth, accounting for almost a fifth of global demand today. The International Energy Agency (IEA) recently published a report on “The Future of Trucks: Implications for energy and the environment”, addressing how the world needs to improve the efficiency of road-freight transport as it is critical to reducing the growth in oil demand, carbon emissions and air pollution over the next decades. In the interim however, strong demand for oil will still persist.
India - the oil hope. With a 1.3bn population, the south Asian nation remains the key to the future of oil prices as it is described at the largest source of future oil demand. Expecting to increase oil demand by c.200,000bbls/day to 4.5mbbls/day this year which would translate to a c.15% global rise, the rising incomes and rapid uptake of motorcycles and boost in petrol and diesel from cars. India currently imports c.86% of its oil needs from OPEC countries, but also wants to reduce its dependence on foreign crude by accelerating its growth in electric cars and to embrace other alternative fuels such as gas and renewables. But for now, India’s demand remains a key catalyst for the oil markets, while its aim to reduce its reliance on oil by switching to alternative energies but for the longer-term.
Keystone XL... According to a Wall Street Journal report, TransCanada is still seeking out customers for the 830,000bbls/day pipeline capacity, which they have expressed they want to secure 90% of before proceeding with the project. With the hefty development cost of USD8.0bn, even with support from the Trump administration, ability to secure customers is of paramount importance. TransCanada remains confident that it will find enough customers to fill Keystone XL at 90% of capacity over the next few months.
Dakota Access Pipeline in operations since 1 June. The initiation of the pipeline means the company’s broader Bakken Pipeline system will now be able to ship 520,000bbls/day to the US Gulf Coast. The pipeline is therefore advantageous for drillers located in North Dakota’s Bakken, who can now ship more crude with a lower-cost pipeline system rather than by rail. Gulf Coast refiners will also now have access to more light sweet crude.
Oil markets to balance but at a “slower pace”. Amidst all the noise in the oil markets, both Russia and Saudi Arabia are in tune that oil will come back into balance by 1Q18 as OPEC/non-OPEC cuts come to the end of the compliance period. Saudi Aramco, in compliance with the extended OPEC production cuts, had reportedly informed Asian refiners that exports to the region will be reduced by c.7.0mbbls/mth with crude supply cuts to China, South Korea and South East Asia by 1.0mbbls each. Saudi exports to India in June were set to decline by over 3.0mbbls and Japan to fall just below 1.0mbbls. Outside Asia, Aramco will cut exports by c.35% to the US.
Source: PublicInvest Research - 13 Jul 2017
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