This article has been compiled from dozens of major news articles, such as FT, Bloomberg, Reuters, New York Times, and Washington Post, amongst others, in order to provide inspiration for generating trading ideas. In this article, my own opinion has been reduced to the bare minimum. The aim of it is to summarise the information featured in published articles to provide the background information as unbiased as possible, although this is merely advisory and thus should be read with caution.
Despite a concern arising in the summer as to a potential shortage of oil supply due to the US sanctions on Iran, as it turned out, there has been an oversupply of oil. In response to that, crude oil prices have been tumbling since early October with its benchmark Brent Crude plummeting from around $85 per barrel then to below $60 per barrel in late November (Raval and Sheppard, 2018). And now in mid-December, it continues to hover around $50 per barrel (Denning, 2018) (Fig.1).
Fig.1: Brent Crude Oil Price
Source: Bloomberg Markets
Despite the much anticipated production cut agreed upon at the OPEC plus meeting on 6 and 7 December, oil prices have remained relatively unchanged, although it momentarily recovered to above $60 per barrel before it descended again (OPEC, 2018). At the meeting, OPEC members including Saudi Arabia, the world’s biggest exporter of oil, plus Russia also one of the three biggest oil producers, agreed to cut production more than anticipated in an attempt to raise oil prices. Ahead of the meeting, the circulated speculation was that the cut would be around 800,000 to 1 million barrels per day, which would have had little impact on the market (Denning, 2018; Longley, 2018). In actuality, though, the oil cartel and its allies agreed to cut 1.2 million barrels a day of production for the coming year of 2019 (Longley, 2018). Despite that, oil prices still remain relatively unchanged, thus the conceivable reasons are explored in the ensuing part.
2. Major Downward Drivers
The following rough breakdowns of what drives oil prices at the moment show their divergent variables (Diagram 1). First, several downward drivers of oil prices are identified.
2.1.OPEC members + increased oil production
In response to rising oil prices during the summer, the president Trump urged the OPEC + countries to ramp up their production. Since then, OPEC members, such as Saudi Arabia and Libya as well as Russia have increased oil outputs (DiChristopher, 2018). Reaching an all-time high, Saudi Arabia’s crude oil production jumped to the level of over 11million barrels per day in November, a leap from 10.6 million barrels a day in October (Trading Economics, 2018; Raval and Sheppard, 2018) (Fig.2).
Fig.2: The upward trajectory of Saudi Arabia’s oil production
Source: Trading Economics, 2018. (Thousand barrels per day)
This has resulted in oversupply and surging stockpiles, which have exceeded the demand, and consequently led to the price collapse (Raval, 2018).
2.2. The OPEC meeting and the inadequate production cut
The production cut agreed at the OPEC meeting might not be significant enough to move the market upward and to reverse the tanking oil prices. Prior to the meeting, it was said that at least cutting 1.4 million barrels a day was necessary to move the market in any significant way (Raval, 2018).
Also, even though the 1.2 million barrels a day production cut was agreed at the OPEC meeting, investors have grown sceptical about the OPEC’s ability to curb oil prices, as there are increasingly other factors at play, one of which is a significant one, namely the increasing Shale production.
2.3. the surging Shale production
In October, the US official agency reported that the shale oil production is expected to reach a new all-time high in November, which will ease an upward pressure on oil prices (Sell, 2018).
In July, it was reported that the US crude oil production reached over 11 million bpd for the first time, thanks to the rapidly rising shale drilling (Gaffen & Mersie, 2018). The number of oil-drilling rigs across the country has gone up by about 100 since January (Sell, 2018). More specifically, the number of Baker Hughes crude oil rigs reached 875 on October 26, while the all-time high of 1609 was reached in October 2014 (Trading Economics, 2018b).
2.4. The trade tension between the US and China
The trade tension between the US and China also casts a shadow on the future demand for oil globally, and the forecasted lowering demand for oil certainly weighs on oil prices and futures contracts (Nussbaum, 2018).
In addition to the China and the US trade war tension, a series of tumults in Europe, such as Brexit, Italy’s budget deficit, and the unceasing “yellow-vest” protestors in France fuel a concern over global demand for oil (Longley, 2018).
2.5. Strong USD
Due to the strengthening US dollar, for oil consumers outside of the US, purchases of commodities including oil have become more expensive, which further curbs global demand (Nussbaum, 2018).
2.6. Waivers as to US Sanctions on Iran
The US sanctions on Iran came with several waivers. Prior to it, the speculation revolved around the shortage of supply in the market, however, as it turned out, it was the very opposite (Nussbaum, 2018). The US granted exemptions to eight nations, allowing them to continue buying Iranian oil on a temporary basis. The eight countries include Iran’s top customers, such as China, India, Greece, Taiwan, Japan, Turkey and South Korea (Reuters, 2018). In spite of that, over twenty countries have been affected by the sanctions, resulting in the reduction of oil purchases from Iran by more than 1 million barrels per day, while the U.S. sanctions have been met with serious objections from European countries, Russia and Turkey (Reuters, 2018).
2.7. Low Demand Forecast for oil in 2019
Expected growth in supply from U.S. shale producers led the OPEC to lower its forecast for the global demand for its crude in the coming year (Sell, 2018). Not only that, but also the aforementioned factors, such as the strengthening USD, global political uncertainties, such as the US-China trade war, Brexit, and the unstable EU nations also contribute to the low demand forecast for the coming year.
Weak economic data from China underlines possibly weaker fuel demand in the world’s largest oil importer in the coming year (CNBC, 2018). (Table 1)
Table 1: The 2017 World’s largest Oil Importers
Source: The World Factbook. 2018
|Countries||dollar value worth||Of total crude oil imports|
|2||United States||$139.1 billion||15.9%|
|5||South Korea||$59.6 billion||6.8%|
2.8. US oil production and stockpile surge
In October, crude stockpiles in the U.S. have risen for four straight weeks, which was the longest run of gains since early 2017, which was thought then to ease the future demand (Cho & Smith, 2018). Also, the US oil production is now at a record level (Fig.3).
Fig.3: US Crude Oil Production: July 2013 – July 2018
Source: TradingEconomics.com / U.S. Energy Information Administration
Table 2: Crude Oil Production by Country
|Country||Last BBL/D/1K (Monthly)||Date||PreviousBBL/D/1K (Monthly)|
|United States||10964.00||July 18||10674|
|Saudi Arabia||10502.00||September 18||10412|
3. Major Upward Drivers
3.1. Still rising consumption in the US
In the face of rising oil production, the unchanging fact is that the United States still remains as the world’s top oil consumer. As such, it inevitably relies, still, on imports to some extent, and net US crude imports USOICI=ECI grew to around 9 million bpd by 2.2 million bpd in July (Gaffen & Mersie, 2018).
Moreover, since the US being the biggest consumer of oil, American consumers prefer oil prices to be lower. And this underlying assumption is critical for the president Trump and the relationship between the US and Saudi Arabia.
3.2. Iran &Venezuela
Already failing sanctioned Iran and hyperinflation-stricken Venezuela are expected to contribute to the production cut agreed upon by the OPEC members, and analysts are speculating that the production reduction will be effectively doubled as a result (Cho, 2018; Denning, 2018; DiChristopher & Meredith, 2018; BBC News, 2018).
3.3. Libya, the North Sea, & Canada
At Libya’s largest oilfield, El Sharara, its state-owned firm National Oil Corp. (NOC) closed down its crude production site due to the on-going protest that captured the oilfield, demanding quick monetary concessions (al-Warfalli, 2018). Currently, Libya is run by two competing yet weak governments, where civilians, tribesmen and armed clans have been severely affected by soaring inflation and they attribute its cause to the NOC, demanding the state-owned oil firm to hire more people (al-Warfalli, 2018). This temporary contraction of the Libyan oil production could potentially add to the downward pressure on oil prices.
In parallel, Marathon Oil, Chevron, ConocoPhillips and EOG Resources have pulled out their operation out of the North Sea in recent years in order to focus on the rapidly expanding shale production back home (Bousso, 2018).
Also, Alberta, the world’s fifth-largest producer, and Canada’s largest oil producing province announced that it would cut its oil production by 8.7% in an attempt to raise oil prices (Orland, 2018).
3.4. China – the second largest consumer of oil
Meanwhile, China allegedly bought vast amounts of the Middle East and West African crude in response to collapsing oil prices in November and now is expected to adopt the stockpiling strategy while taking advantage of cheap crude oil (Cho, 2018). It means that in the short run, it creates demand and pushes the prices, although in the long run, it will likely ease demand.
In addition, the joint venture between China and Venezuela has sky-rocked by 100% in a short space of 7 months (Slav, 2018).
The International Energy Agency (IEA) stated in earlier December that deficit in oil supply can be expected by the 2nd quarter of the coming year, if OPEC + members will keep their agreed production cut (CNBC, 2018). Given that global inventories are expected to fall, in addition to Saudi Arabia’s export reduction, and an end to the waiver as to the US sanctions on Iran that will possibly come into effect, analysts at Barclays expect oil prices to recover in the first half of the next year (CNBC, 2018).
4. Unknown Factors
4.1. Further cut by OPEC nations in 2019
Given the unchanging oil prices in the wake of the OPEC meeting and the agreed production cut in early December, OPEC nations may further cut oil production next year in an attempt to raise oil prices.
For OPEC nations and the oil cartel allies, their sovereign budgets are often pegged at their natural resources (DiChristopher & Meredith, 2018). Thus, plummeting oil prices also mean their national budgets to shrink, albeit in nominal values.
4.2. U.S. Shale production and refineries
Although the US output growth in shale crude has been at an incredibly high pace, the US refineries are allegedly not ready to process much of the domestically produced crude. Most refineries in the US are configured for heavier grades, such as the ones from the Persian Gulf, particularly Saudi Arabia (Sell, 2018). For that reason, there has been a concern over the relevant infrastructure to bring oil to the market, which may cause a bottleneck situation (Gaffen & Mersie, 2018).
Diagram 1: Oil Prices Drivers
5. Ending comment
5.1. On the relationship between the US and Saudi Arabia
The ambivalent relationship between the US and Saudi Arabia was mostly triggered by the suspected killing of the dissent journalist Jamal Khashoggi, who used to write for The Washington Post as a contributing columnist (Hubbard & Kirkpatrick, 2018). It has been discovered that a group of Saudi agents was involved in the killing, beating the fugitive to death and his body was brutally dismembered (DeYoung et al., 2018). The Turkish government recently released a new piece of evidence, suggesting that the killing was premeditated by Saudi Intelligence, implying the prince’s involvement. After the CIA briefing, a number of US senators emerged convinced that the crown prince MBS’ involvement in the murder (Borger, 2018). Nonetheless, the president Trump downplayed it, prioritising the US economic interests in Saudi Arabia (Raju et al, 2018). Using its political leverage, the US has been putting a pressure on Saudi not to cut oil production, though, in vain.
Whilst Saudi Arabia is the biggest exporter of oil, it is also the world’s largest arms importer along with India, and the US reliance on Saudi’s buying of military weapons from the US constitutes a part of the US economic interest (DeYoung et al., 2018). Since the murder of Mr Khashoggi, Germany has already expressed its intention to bring to a halt its arms exports to Saudi, whilst the US, together with the UK and France, will likely remain reluctant to cease its arms export, which will risk hundreds, if not thousands, of jobs domestically.
Table 3:World’s Arms Exporters in the post-war era
Source: SIPRI Yearbook 2013
|1950-2017||Supplier||Arms Export in billion, trend-indicator values|
In the light of the political leverage that the US may have over Saudi, it could deter the country from further cutting oil production radically. For the populist politician as Trump, cheap oil prices mean more money in consumers’ pocket, and thus the news is to be welcomed. However, sine he is also a supposed industry-friendly president, low oil prices hurt the industry, particularly the rapidly growing shale industry.
From Saudi’s perspective, though, oil prices should preferably be higher, as the country’s budget relies heavily on its rich natural recourses, the “black diamond.” (Nussbaum, 2018)
5.2. Long-term prediction derived from various implications
As the US oil production rapidly increases the long established fact that the US is a net importer of oil seems to be slowly wearing off. The implication is that the US is increasingly becoming self-sufficient, at least for the time being, and slowly departing from the era in which the country heavily depended upon oil from the Middle East and Gulf region. This implies a long-term downward pressure on oil prices, although given the agreed OPEC production cut, in the mid-term, i.e., on a 3-6 month basis, a significant recovery could be possible.
From the perspective of international relations, this would potentially mean profound for the Arab nations, particularly Saudi Arabia in that Saudi, being an autocratic state, has the largest budget deficit among the major states and the country’s prosperity is primarily derived from oil (Fig.4). If the West grows further independent of the Middle Eastern oil, it will certainly alter international relations at a fundamental level.
Table 4: G20 countries, Budget Deficit, Worst 10 nations
Source: Trading Economics, 2018
|Saudi Arabia||-8.90||Dec/17||-12.8||43.17 : -25.27||%|
|Brazil||-7.80||Dec/17||-9||-2 : -10.2||%|
|South Africa||-4.60||Dec/17||-3.9||1 : -7.4||%|
|Japan||-4.50||Dec/17||-4.5||2.54 : -9.5||%|
|India||-3.53||Dec/17||-3.52||-2.53 : -8.13||%|
|United States||-3.50||Dec/17||-3.2||4.5 : -9.8||%|
|China||-3.50||Dec/17||-3.8||0.58 : -3.8||%|
|Spain||-3.10||Dec/17||-4.5||2.2 : -11||%|
|Mexico||-2.90||Dec/17||-2.6||3.3 : -3.4||%|
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