Hitting Rock Bottom
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Hitting Rock Bottom

It's like trying to catch a falling barrel: Every time it seems as though crude oil prices might have touched bottom, the bottom moves a little lower.

The latest low came on August 24, when the price of West Texas Intermediate (WTI) plummeted to $38.22, its lowest level since 2009. The price has since risen to around $46 per barrel, but a year ago it was more than twice that, at $93. Brent crude also fell to a six-year low of $42.69 per barrel in late August, and was still trading at $48 a barrel in late September. A year earlier, a barrel of Brent would have cost you nearly $100.

The current low prices are largely the result of a new supply dynamic in global energy markets. The first change in that dynamic came when Saudi Arabia, long the world's swing producer, chose to go for market share instead of price in the face of fast growing non-OPEC production, and didn't curb production to keep prices around their stated preference of $100 a barrel. That decision to keep pumping catapulted the U.S into the role of the world's new swing producer, but American producers turned out to be no more enthusiastic about turning off the tap than the Saudis. While investors have lost their taste for the equity of U.S. energy companies in the face of declining oil prices, they have continued to lend them money to fund their operations, and U.S. oil supply has grown significantly in every quarter since the beginning of 2014. All-told, global oil supply rose 2.1 percent in 2014 compared with a 1.1 percent increase in global demand.

How long will this dynamic last? From OPEC's perspective, it could be a while. Credit Suisse expects production in most states within the Organization of Petroleum Exporting Countries (OPEC) to remain steady through the end of 2016. Though Saudi Arabia needs a great deal of money to fund its generous subsidies, Credit Suisse Global Energy Economist Jan Stuart points out that the country has built up approximately $650 billion in reserves and its new leaders are willing to issue debt so long as maintaining production at low prices serves a long-term strategic purpose. Credit Suisse's energy analysts expect Saudi Arabia to "broadly maintain its relatively high exports, but not to grow them" through 2016, but think Iran could add 800,000 barrels per day of oil to global supplies next year.

If prices are to rise, then, it's going to have to be either the United States or other non-OPEC producers that will cut production – and finally American producers appear to have begun to do just that. The number of active oil rigs in the United States has fallen from some 1,600 in December 2014 to 644 in late September. There can be a considerable lag between when rig counts begin to fall and when production drops, but the disconnect can't last forever. Already, a rolling measure of the oil supply coming out of four major shale oil plays in the United States shows that production has been declining since June. Stuart points out that the data finally began to show that overall U.S. oil production rolled over in the second quarter of this year, and he expects the decline to continue until the middle of 2016. Credit Suisse's energy team believes the WTI price will stay below $55 a barrel until the second quarter of 2016 – precisely so that cash-flows stay low enough and so that energy companies will have to cut production. They don't expect prices to rise above $65 a barrel, enough for supply outside the US to grow again, until 2018. Credit Suisse believes Brazil, Canada and North Sea producers such as the United Kingdom and Norway will face declining production in 2016, while Russia may see a slight increase.

Supply, of course, is only one side of the price equation. Global oil demand has been growing, and Stuart believes it will begin to outpace supply – 95.4 billion barrels to 95.1 billion barrels – in the fourth quarter of 2015. Much of the acceleration of demand-growth is coming from the U.S. and Europe, where economic growth is expected to sustain in the coming months. Credit Suisse believes European oil demand will increase 1.6 percent in 2015, a marked about-face from the 1.4 percent contraction in 2014, while U.S. demand is expected to grow more than twice as fast this year (1.9 percent) as it did last (0.8 percent). Even in China, Stuart points out that demand has continued to expand over the last few years and months, despite the country's economic slowdown. Credit Suisse believes that Chinese leaders are committed to additional stimulus to stabilize growth, but the failure of such efforts and a subsequent nosedive in economic activity in China and the rest of Asia pose the biggest risk to the bank's energy forecast. For now, it seems as though increasing global demand and tightening supply will slowly start to push prices higher next year. Just don't expect $100 a barrel anytime soon.