Oil prices plunged to the lowest monthly average in a decade at the start of 2016 and with supplies continuing to outpace demand, as it has in the last two years, experts believe oil prices will remain below last year's level throughout the year ahead.
The US Energy Information Administration (EIA) projects that Brent price will average $37.4 per barrel in 2016, reaching $43 by December; with Brent futures contracts averaging $35 per barrel for 2016, it appears that many investors also subscribe to the EIA’s view.
However, according to analysts at Asiya Capital Investments Company, a Kuwait-based international investment firm, the market may be underestimating future supply and overestimating future demand. They believe that oil prices could fall below EIA’s forecast for a third consecutive year.
Though the International Monetary Fund (IMF) has projected the global economic to grow from 3.1 percent YoY in 2015 to 3.4 percent in 2016, according to Camille Accad, economist at Asiya Capital, global demand will most likely decelerate to around 2.8 percent this year.
The company bases their analysis on the less than optimistic economic data from major sectors of global economy. Though the IMF expects US growth to rise slightly this year, recent data suggest otherwise; investment and consumption are sluggish in the US with the industrial sector contracting and the labor and property markets showing early signs of a slowdown. On a similar note, the IMF also expects the euro zone and Japan to accelerate, but these economies show no signs of strength. February’s PMI figures suggest a deceleration in all three developed markets.
Moreover, China, the world’s largest oil importer, is expected to continue down its deceleration path this year due to its structural rebalancing. “The EIA and International Energy Agency (IEA) expect oil demand growth to decelerate slightly from 1.5 percent YoY in 2015 to 1.3 percent this year. In our view, these growth estimates are too high,” says Mr. Accad.
EIA and IEA also estimate oil supply growth to fall from 2.5 percent YoY in 2015 to 0.5 percent and 0.3 percent YoY respectively, driven mainly by a decline in shale output. The low oil price environment has forced US and Canadian companies to cut back on investment and close down rigs. However, the effect is yet to be seen on crude stockpiles, which are still around all-time highs.
Upside risks to supply are more evident in other markets such as Iran, Iraq and Libya. Iran and Iraq are producing below their full capacity. The recent removal of sanctions on Iran and the return of Iraq’s energy industry, following years of devastating conflicts, are driving a reemergence in their output.
Meanwhile, Russia, Saudi Arabia and Venezuela, who are producing near record highs, are ready to cap production at current levels, but the deal depends on the participation of Iran and Iraq, which is unlikely to happen. Moreover, sectarian tensions in the region have complicated the relationship between Saudi Arabia, Iran and Iraq. As such, these countries’ production levels are likely to increase in an uncoordinated manner.
A return of Libyan crude to global markets would also raise global supply further. Libya is currently producing 400,000 barrels per day, a quarter of its output before the Arab Spring. However, although a strong comeback is unlikely, slow progress towards the formation of a unity government raises the possibility of a small upturn. “There is no conclusive evidence that the supply gap will narrow this year, and we expect oil prices to remain lower than EIA’s estimates,” said Mr. Accad.
Noting that the oil market rebalancing process will be slow as stronger economic conditions are needed to raise demand, the Asiya Capital economist concluded, “This year, we expect low oil prices to have stronger economic implications on oil-producing and oil-consuming countries. In oil-producing economies such as the GCC, deteriorating fiscal balances will lead to more aggressive measures. Meanwhile, net oil consumers may feel more positive effects of low oil prices as the lagged price transmission mechanism of the energy supply chain takes effect.”