Predicting a $50/bbl end-2016 oil price

It’s been one heck of a volatile start to the New Year with the oil market going berserk for what is coming up to nearly four weeks now. We’ve seen 10%-plus week-on-week declines to 5%-plus intraday gains for Brent and WTI. Plenty of predictions are around the market from extremely bearish to wildly optimistic.

For instance, ratings agency Moody’s is assuming a drop to $33 per barrel for both Brent and WTI, while Citigroup calls oil the ‘trade of the year’ should you choose to stick with it. Doubtless, Moody’s errs on the side of caution, and Citigroup’s take is premised on the buying low, selling high slant. 

The Oilholic's prediction is somewhere in the mundane middle. On balance of probability, squaring oil supply and demand, yours truly sees Brent and WTI facing severe turbulence for the next six months, but very gradually limping up to $50 by the end of this year. That’s a $10 reduction on a prior end-2016 forecast. A detailed explanation is in the Oilholic’s latest Forbes column available here.  

In the event that surplus Iranian oil starts cancelling out production declines in North America and other non-OPEC production zones, there are several known unknowns. These include the strength of the dollar prolonging the commodities cycle and the copious amount of oil held in storage, the release (or otherwise) of which would have a heavy impact on the direction of the market. Nonetheless, $20 oil doesn’t sound all that implausible anymore even if it won’t stay there.  

Another key revision is the narrowing of the Brent-WTI spread to zero (twice over the course of last year), and a subsequent turn in WTI’s favour. From predicting a $5 premium in favour of Brent, the Oilholic is coming around to the conclusion that WTI would now have an equal, if not upper hand to Brent. 

The so-called premium in the global proxy benchmark’s favour was only established after a domestic US glut rendered the WTI unreflective of global market conditions back in 2008-09. Now that the global market is facing a glut of its own; oversupply sentiment is weighing on Brent too.

Even if the WTI does not regain market prominence as many commentators are predicting, the US benchmark wont play second fiddle either. The usual caveats apply, and the Oilholic would be revisiting the subject over the second quarter. But that’s all for the moment folks! Keep reading, keep it ‘crude’! 

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© Gaurav Sharma 2016. Photo: Oil rig in the North Sea © Cairn Energy.

Suddenly $20/bbl oil isn't all that implausible

Successive bouts of over 10% week-on-week/five-day price declines have hit the oil market for six and made for a wretched start to 2016. 

Last Friday, Brent ended 12.33% lower to the Friday [Jan 8] before, WTI fell 10.37% and OPEC’s Basket of crude oils was 10.23% lower. (see graph, click to enlarge)

Closing Brent price of that Friday itself was some 10.54% lower, WTI was down 10.48% lower and OPEC Basket Price down 10.94% versus the closing price of December 31. Suddenly, $20 per barrel oil doesn’t sound all that implausible!

However, the Oilholic still maintains that while $20 oil is possible, it won’t stay there as an inevitable supply correction would kick-in. Excluding Gulf production, much of the world’s current oil production is barely being produced at cost, let alone at a marginal profit. As non-OPEC producers’ hedges roll-off, the pain will hit home for we are a long way from the $60 comfort threshold for many. 

As for OPEC, even if the decline continues, the Oilholic feels there is little it can do other than to let the market take its own course. An OPEC cut would only keep rivals in the current game of survival called 'lower for longer'. That’s all for the moment folks! Keep reading, keep it ‘crude’!

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© Gaurav Sharma 2016. Graph: Oil benchmark prices (Friday closes) © Gaurav Sharma / Oilholics Synonymous Report, 2016.

A crude rout & all those downgrades

Both Brent and WTI futures are trading at their lowest levels since 2008 and previous weeks have offered some spectacular declines, if there is such a thing as that!

Biggest of the declines were noted when Brent fell by 12.65% and WTI by 11.90% between Friday, December 4th and Friday, December 11th using 2130 GMT as the cut-off point for 5-day week-on-week assessment. Following that, like January, we had another spread inversion in favour of the WTI, with the US benchmark trading at a premium to global proxy Brent for a good few sessions before slipping lower, as both again got dragged lower in lacklustre post-Christmas trading.

It all points to the year ending just as it began - with a market rout, as yours truly explained in some detail via a recent Forbes post. With nearly 3 million barrels per day of surplus oil hitting the market, the scenario is unavoidable. While the situation cannot and will not last, oversupply will not disappear overnight either. 

The Oilholic reckons it will be at least until the third quarter of 2016 before the glut shows noticeable signs of easing, mostly at the expense of non-OPEC supplies. That said, unless excess flow dips below 1 million bpd, it is doubtful ancillary influences such as geopolitical risk would come into play. 

For the moment, one still maintains an end-2016 Brent forecast near $60 per barrel and would revisit it in the New Year. Much will depend on the relative strength of the dollar in wake of US Federal Reserve’s interest rate hike, but Kit Juckes, Head of Forex at Societe Generale, says quite possibly commodity markets fear even a dovish Fed!

Meanwhile, with the oil market rout in full swing, rating agencies are queuing up predictable downgrades and negative outlooks. Moody’s described the global commodity downturn as “exceptionally severe in its depth and breadth” and expects it to be a substantial factor driving the number of defaults higher on a global basis in 2016.

Collapsing commodity prices have placed a significant strain on credit quality in the oil and gas, metals and mining sectors. These sectors have accounted for a disproportionately large 36% of Moody’s downgrades and 48% of defaults among all corporates globally so far this year. The agency anticipates continued credit deterioration and a spike in defaults in these sectors in 2016.

Over the past four weeks, we’ve had Moody's downgrade several household energy companies, including all ratings for Petrobras and ratings based on the Brazilian oil giant's guarantee, covering the company's senior unsecured debt rating, to Ba3 from Ba2. Concurrently, the company's baseline credit assessment (BCA) was lowered to b3 from b2. 

“These rating actions reflect Petrobras' elevated refinancing risks in the face of deteriorating industry conditions that make it more difficult to raise cash through asset sales; tighter financing conditions for companies in Brazil and in the oil industry, coupled with the magnitude of eventual needs to finance debt maturities; as well as the company's negative free cash flow,” Moody’s explained.

It also downgraded Schlumberger Holdings to A2; with its outlook changed to negative for Holdings and Schlumberger. "The downgrade of Schlumberger Holdings to A2 reflects the expected large increase in debt outstanding related to the adjustment of its capital structure following the Cameron acquisition," commented Pete Speer, Moody's Senior Vice President.

Corporate family rating of EnQuest saw a Moody’s downgrade to B3 from B1 and probability of default ratings to B3-PD from B1-PD. Of course, it’s not just oilfield and oil companies feeling the heat; Moody’s also downgraded the senior unsecured ratings of Anglo American and its subsidiaries to Baa3 from Baa2, its short term ratings to P-3 from P-2, and so it goes in the wider commodities sphere.

In the past week, outlook for Australia’s Woodside Petroleum outlook was changed to negative, while the ratings of seven Canadian and 29 US E&P companies were placed on review for downgrade. And so went the final month of the year. 

Not just that, the ratings agency also cut its oil price assumption for 2016, lowering Brent estimates to average $43 from $53 per barrel in 2016, and WTI to $40 from $48 per barrel. Moody’s said “continued high levels of oil production” by global producers were significantly exceeding demand growth, predicting the supply-demand equilibrium will only be reached by the end of the decade at around $63 per barrel for Brent. 

While, the Oilholic doesn’t quite agree that it would take until the end of the decade for supply-demand balance to be achieved, mass revisions tell you a thing or two about the mood in the market. Meanwhile, at a sovereign level, Fitch Ratings says low oil prices will continue to weigh on the sovereign credit profiles of major exporters in 2016. Of course, the level of vulnerability varies.

“In the last 12 months, we have downgraded five sovereigns where oil revenues accounted for a large proportion of general government and/or current external receipts. Another three - Saudi Arabia, Nigeria, and Republic of Congo - were not downgraded but saw Outlook revisions to Negative from Stable,” the agency said in a pre-Christmas note to clients.

It is now all down to who can manage to stay afloat and maintain production as the oil price stays ‘lower for longer’. Non-OPEC producers will in all likelihood run into financing difficulties, as one said in an OPEC webcast on December 4, with Brent ending 2015 over 35% lower on an annualised basis.

Finally, the Oilholic believes it is highly unlikely a divided OPEC will vote for a unanimous production cut even at its next meeting in June. For what’s it worth, $35 per barrel could be the norm for quite a bit of 2016. So in 12 months’ time, the oil and gas landscape could be very, very different. That’s all for 2015 folks! Keep reading, keep it ‘crude’!

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© Gaurav Sharma 2015. Graph: Oil benchmark Friday closes, Q4 2015 © Gaurav Sharma / Oilholics Synonymous Report, December 2015. Photo: Gaurav Sharma speaking at the 168th OPEC Ministers' Meeting in Vienna, Austria © OPEC Secretariat.

Brent- WTI parity (again) before the year-end!

Before the year is out, we’ve got parity yet again between both benchmarks. Right at the start of the year, the West Texas Intermediate briefly traded at a premium to Brent having achieved parity at $48.05 per barrel on January 15. 

Come the end of the year and we are here again! Parity between both benchmarks was achieved once more at a lower level of $36.40 per barrel on December 22 (see above, click to enlarge), exactly $11.65 lower with WTI in the ascendancy. In fact, the US marker's premium appears to holding.

The OPEC stalemate, peak winter demand and lifting of US exports ban are and will remain price positives for the WTI, as one wrote in a Forbes column. So is this a reversal of the 'crude' pecking order of futures contracts we have gotten used to since 2010? The Oilholic feels its early days yet. However, the development sure makes for an interesting 12 months in more ways than one.

Happy Christmas dear readers, but that’s all for the moment folks! Keep reading, keep it ‘crude’!

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© Gaurav Sharma 2015. Photo: Bloomberg terminal screen grab showing moment of Brent-WTI parity on December 22, 2015  © Bloomberg.

US oil exports could level crude playing field

It has taken 40 years but US politicians finally found the timing, inclination and effort required to get rid of a legislative relic dating back to the Arab oil embargo of 1975 – a ban on exporting the country's crude oil that has plagued the industry for so long for reasons that no longer seem relevant.

Late on Friday, when news of the lifting of the ban arrived, the Oilholic could scarcely believe it. As recently as July 2014, this blogger opined in a Forbes column that movement on this front was highly unlikely until after the US Presidential election. However, in this instance, one is both pleasantly surprised as well as glad to have been proved wrong.

US producers, including independent upstarts behind the country’s shale bonanza, would now be able to sell their domestically produced barrels out in the international market competing with those already having to contend with a global supply glut.

Let's not kid ourselves, lifting of the ban would not necessarily lead to a significant spike in US oil exports over the short-term. However, it at least levels the playing field for the country’s producers should they want to compete on the global markets. It is also price positive for WTI as a crude benchmark leading it to compete better and achieve parity (at the very least) with global benchmarks in the spirit of free market competition.

Of course, in keeping with the shenanigans long associated with political circles in Washington DC, lifting of the ban came as part of a $1.1 trillion spending bill approved by the Senate that will fund the government until 2016.

The spending bill also includes tax breaks for US solar and wind power, and a pledge by both errant Republicans and Democrats not to derail a $500 million grant to the UN Green Climate Fund.

No matter what the political trade-offs were like, they are certainly worth it if the reward is the end of an unnecessary and redundant ban. That’s all for the moment folks! Keep reading, keep it ‘crude’!

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© Gaurav Sharma 2015. Photo: Alaska Pipeline, Brooks Range, USA © Michael S. Quinton / National Geographic