By Paul Kuklinski, Boston Energy Research
An equity investment analyst in the energy sector for over 30 years, Paul Kuklinski founded Boston Energy Research in 1992 to provide independent research to large financial institutions. He was previously a partner at Cowen & Co. and a founding partner of Harvard Management Co. In this guest column, Kuklinski projects how oil markets are shaping up for 2018. You can contact him at [email protected] for a more detailed discussion, including the risks to his outlook.
The spike in oil prices since August provides U.S. oil producers an attractive opportunity as it will likely result in acceleration of production growth. Coupled with a seasonal dip in global demand expected in the first quarter of next year, which will help sizable excess oil inventories to persist, a correction in oil prices is likely.
Surplus oil inventories are likely to remain through 2018, taking the steam out of the upward momentum in prices without an actual supply disruption. Inventories will still be above the five year average by the fourth quarter next year, but will be smaller.
Currently the West Texas Intermediate (WTI) price of oil – the commodity price for oil in the U.S., used on the New York Mercantile Exchange – is $56 per barrel in response to increased geopolitical anxiety, up from an average of $49.33 per barrel for the first nine months of 2017. Without high geopolitical risk or an actual supply reduction, oil prices have downside risk.
Fundamentals alone suggest an average near $53 per barrel price as a working number over the next 12 months until greater clarity emerges, with a varying geopolitical risk premium additive.
The Brent price for oil – which serves as the major benchmark price for purchases of oil worldwide – is at $63 per barrel and is selling at a $6.37 per barrel premium over the WTI price. That wide spread should encourage U.S. oil exports and discourage imports, though that “Brent premium” will likely slowly contract.
Expectations are that OPEC – the Organization of Petroleum Exporting Countries – will extend its current production cut until the end of 2018, a full nine months farther than the current March 2018 end-date for production cuts. OPEC is scheduled to meet in Vienna this week on November 30.
Without an actual geopolitical supply disruption, the latest fundamentals indicate surplus oil inventories will remain high through 2018. This assumes OPEC production remains near October levels, adjusted for a steady decline in Venezuela. A 200 million barrel per day year-over-year decline in total OPEC production by the fourth quarter of next year is indicated.
Outside the US, the outlook for production growth is also improved. The major global oil companies have adjusted to a world of $50 per barrel prices. BP, for example, is able to breakeven at $49 per barrel and is guiding toward cash breakeven at $35 to $40 per barrel in 2021.
Since 2015, global oil demand has grown about five million barrels per day, twice as fast as the previous three years, supported by strong global economic growth, particularly in the OECD. In the fourth quarter of this year, demand will be up 1.44 million barrels per day year-over-year to 98.2 million barrels per day, which is well above trend-line.
Beyond 2018, however, the risk of an oil shortage remains. In a shortage, an oil price spike to well over $100 per barrel would not be surprising.