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ยป The Outlook for Oil
Date published: 10/03/2011
The Outlook for Oil
Just a couple of months into the New Year and recent events have affirmed my view that despite an ever-changing and volatile financial climate, gold and oil remain the most significant of all commodities in terms of their importance, profile and capacity to influence market sentiment.
And it hasn’t just been political agitation in MENA (Middle East and North Africa) that has been driving prices, although supply risk has certainly played its part. What was missed by many in the market was oil’s strongly positive price movement during the second half of last year.
Global demand for oil has in fact never been stronger, although this consumption growth has taken place at a time of demand weakness in two of the traditionally biggest markets for oil, the USA and Europe. Global oil consumption has recovered from the lows of early 2009 and now sits above pre-GFC consumption levels.
The IEA predicts that global energy demand will grow by 36% between 2008 and 2035, with China, India and the Middle East leading the charge. And the three biggest contributing factors for oil demand rise from the emerging economies will be economic growth, population growth and heavy fuel subsidies, which in many countries will provide a buffer against rising oil prices.
One of my biggest bug-bears is the relative complacency displayed by some market-watchers when it comes to future oil supplies. I have no faith whatsoever in OPEC’s bullish pronouncements on their capacity to sustain oil production at levels necessary to satisfy an increasingly energy-hungry world.
Whilst OPEC still controls around 40% of the world's oil supply, the organisation’s spare capacity peaked almost 20 years ago and is projected by experts to fall by an additional 2 million barrels per day during 2011, leaving the cartel with even less ability to manipulate production as demand continues to grow.
Data shows that ten of the cartel's 12 member countries will produce less oil in 2011 than they did in 2008, with Iraq and Nigeria the only countries expected to see production increases.
The following chart clearly demonstrates that virtually the entire world’s big, easy discoveries have already been made. During the period from 1960 to 1970 the average size of a new discovery was 527 Mb per new field wildcat.
Chillingly, this average size drastically declined to 20 Mb per new field wildcat during the period from 2000 to 2005 – a precipitous drop of more than 95%!
Adding to concern is the level of political instability within MENA. How long will it continue and how worse could it get? What are the chances of major oil suppliers like Saudi Arabia and Iran getting caught up in the imbroglio?
Almost two-thirds of the world's known conventional oil supplies are located in the Middle East region. The Saudis have tried to calm market fears by putting on a brave face and declaring that they will plug the gap in terms of any oil supplies lost from Libya. But outside of Saudi Arabia, there is no country within OPEC that can help. And the situation is the same for major non-OPEC producers, with Russia facing a rapid maturing of its traditional fields.
Providing support for my argument that Saudi Arabia has little scope to properly sustain higher oil output was an interesting article I came across the other day, penned by US oil industry veteran, Kent Moors. He’s visited Saudi Arabia’s oil fields on numerous occasions in his career and what he’s witnessed recently scares him.
He believes that pumping upwards of 12 million barrels a day from Saudi fields is likely to do some serious and rapid damage to the oil reservoirs. What is most disturbing is the use of secondary recovery techniques at the very start of field activity. Putting maximum stress on the production network will only exacerbate this problem.
And even if the Saudis are able to temporarily replace lost OPEC production elsewhere; Saudi crude is typically ‘sour’, with high sulphur content. This makes it more expensive to refine and process into end-products like petrol, diesel, heating oil, and jet fuel. And there are fewer refineries that actually process it. So even if the volume concerns are met, the Saudi solution will still mean rising prices for end-users.
Rising demand from emerging markets and a lack of production flexibility by OPEC should result in a very tight global oil market during 2011, which means that oil prices should continue to trend upwards throughout 2011. Prices have already hit my US$100/bbl target for Q1 2011 and are well on their way to my next target price level of US$120/bbl.
The next few months should be very interesting indeed. And not only for oil markets and companies exposed to crude production. As we’ve seen with previous oil price spikes, other energy types tend to follow closely, so we’ll be keeping a close eye on both energy coal and uranium in the coming months.
For more information, or to discuss your specific situation, please contact me directly.
Gavin Wendt
Founding Director & Senior Resource Analyst
MineLife Pty Ltd
Now that you have read this, what do you think? Do you have other ideas? Please share you views with other members (eg by blog or discussion form) and/or request professional member(s) to contact you directly.
