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Bad News for Energy Bulls: Slowing Demand and Increasing Supply

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The news coming out of the International Energy Agency (IEA) this past week wasn’t good for energy bulls. The agency reported that not only was global oil demand slowing at a faster pace than previous predicted, but also OPEC had opened its spigot of production so that oil stocks in OECD countries were “swelling to levels never seen before.

“All [the agencies] have confirmed what most of us have been expecting on the supply side,” said Jim Ritterbusch of Ritterbusch & Assoc. That means downsizing demand expectations.

Crude oil prices, which rose as high as $53 per barrel in June, have since gyrated between $40 and $49 a barrel over past month. Ritterbusch sees a bottom at $39 as the market digests the latest news. U.S. oil futures prices fell 88 cents Friday to close $43.03 a barrel, the lowest close since August. 10. Prices fell 6.2% for the week. 

World oil output of 96.9 million barrels per day fell by 0.3 million barrels per day in August compared to previous year, largely due to non-OPEC production, but that was offset primarily by OPEC’s “near-record” supply.

Kuwait and the UAE goosed production while Saudi Arabia had near record output, and Iran ramped up exports. Saudi Arabia, noted the IEA, has raised output since 2014 and has now overtaken the U.S. as the world’s largest producer.

Furthermore, increased Iranian crude production and exports are “just shy of the pre-sanction production levels,” notes Michael Tran, commodity strategist with RBC Capital Markets, and his colleagues in its spotlight report: Thinking Out Loud, the Crude Crusade.

Tran adds that there might be “more here than meets the eye.” It appears Iran is cutting export prices toward the end of the month, perhaps due to “having a difficult time placing barrels each month,” Tran speculates.

There is slowdown in production elsewhere. Nigeria, Venezuela, China, Canada and the U.S. have had the largest drops in production, says Tran.  China, often seen as only an energy consumer, is also a producer that has cut production this year, “even outpacing headline-grabbing basket-case states such as Nigeria and Venezuela,” Tran notes.

China’s drop in oil production coincides with its slowing economic engine. India, too, is a bit “wobbly” economically, said Ritterbusch, adding the outlook on “emerging markets was a bit optimistic.” Since China isn’t very transparent, Ritterbusch says he uses copper as a proxy for the state of health of the Chinese economy, and the  red metal is now bouncing around six-year lows.

The IEA isn’t optimistic. “After more than a year with oil hovering around $50 a barrel, the stimulus from cheaper fuels is fading. Economic worries in developing countries haven’t helped either. Unexpected gains in Europe have vanished, while momentum in the U.S. has slowed dramatically.”

But Ritterbusch says the long downtrend in U.S. production “is over,” believing shale production will increase in the third quarter.

Trans notes that “based on recent quarterly earnings reports, we estimate that 36% of current production has been hedged for the year, while producers have locked in price protection for almost one-quarter of 2017 production.” He adds, “We also believe that the bottoms for price are in but hedging activity will remain robust around the $50-55 price level as many US producers can make the economics work near those levels.”

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