Price Pain for Oil & Gas Expected to Continue Until Demand Surges

Written by John Egan for Industrial Info Resources (Sugar Land, Texas)--Crude-oil prices have risen nearly 50% since their late-January lows, but analysts caution that current prices likely don't represent a sustainable recovery because prices have been pushed up by temporary supply interruptions more than demand growth.

The price of West Texas Intermediate (WTI) crude oil briefly exceeded $51 a barrel last week before closing at about $47.50 per barrel on Wednesday, a decline of about 8% over one week. WTI's lowest price this year was January 20, when next-month futures contracts priced that crude at $32.54 per barrel on the New York Mercantile Exchange (NYMEX).

While there remains a considerable amount of speculation as to whether, and when, crude-oil prices will hit a sustainable upward path, the U.S. Energy Information Administration (EIA) (Washington, D.C.) has a bearish outlook. In its June Short-Term Energy Outlook (STEO), the agency said global oil supply disruptions were more of a factor pushing up prices than rising oil demand and falling U.S. crude oil production, though it said all three were factors in oil's recent upward climb.

"OPEC's unplanned crude oil supply disruptions averaged nearly 2.6 million barrels per day (MMB/d) in May, about 100,000 barrels per day (BBL/d) higher than in April, as increased outages in Nigeria, Iraq and Libya offset fewer outages in Kuwait," the EIA said. A few days after the STEO was issued June 7, a Nigerian anti-government group blew up two crude-oil pipelines, which is expected to temporarily reduce Nigeria's oil exports even further. Crude-oil production by Nigeria has fallen by about 50% as militants have targeted oil facilities in their fight with the government.

In an early-morning tweet last Friday, the militant group, Niger Delta Avengers, claimed responsibility for blowing up the Obi Obi Brass trunk line in Nigeria's Bayelsa State. That pipeline is operated by a subsidiary of Italian oil giant Eni SpA (NYSE:E) (Rome, Italy). That attack followed by a day an attack against a pipeline owned by the Nigerian National Petroleum Development Company. The militant group also has attacked facilities owned by Royal Dutch Shell Plc (NYSE:RDSA) (The Hague, Netherlands) and Chevron Corporation (NYSE:CVX) (San Ramon, California). Before last week's attacks, the EIA estimated Nigeria's crude-oil production has fallen to about 1.4 million BBL/d, a 30-year low and far below its targeted output of 2.2 million BBL/d.

The EIA added it expected Nigeria's disruptions to "remain relatively high through 2017 compared with recent years." Crude-oil production from Libya also has fallen due to skirmishes between government and rebel forces. Production from a third country, Canada, also was curtailed in May when wildfires in Alberta shuttered an estimated one million BBL/d of oil sands production. For more on those fires, see May 25, 2016, article -- Mandatory Evacuations Lifted on Oil Sands Operations in Alberta.

In a May report to clients, titled What Does Recovery Look Like?, Ponderosa Energy Advisers (Denver, Colorado) commented: "The oil markets remain unbalanced. Unless a structural change or black swan event effectively takes 2 million BBL/d out of the market for the long term, a price comeback for 2016 is unlikely. Recent price rallies have been driven by trader speculation, foreign exchange market dynamics and short-term supply disruptions in Nigeria, Libya, Venezuela and Canada. These supply disruptions are temporary and the [crude oil] prices have risen too high, too quickly."

The EIA's STEO noted OPEC's production averaged 31.5 million BBL/d last year, an 800,000 BBL/d increase over 2014. Despite the supply interruptions in some countries, the cartel is expected to boost production by about 800,000 BBL/d this year, mostly from Iran. In 2017, the EIA expects OPEC countries to increase production by another 700,000 BBL/d.

Meanwhile, in the U.S., crude-oil production continues to fall. Production averaged 9.4 million BBL/d in 2015, but has since fallen to about 8.7 million BBL/d, which the agency projected will be average yearly production for this year. In 2017, production is expected to fall to about 8.2 million BBL/d. Declining production from shale formations and Alaska is being partly offset by increased production in the Gulf of Mexico.

Despite the recent price run up, the EIA forecast Brent prices will average $43 per barrel this year and $52 per barrel in 2017. The agency expects WTI prices to be slightly under Brent this year, but about the same in 2017.

On the demand side, there are signs of good news on the horizon. The EIA estimated global consumption of petroleum and other liquid fuels grew 1.4 million BBL/d in 2015. The agency expects global consumption of petroleum and other liquid fuels to increase by 1.5 million BBL/d in both 2016 and 2017, mostly driven by growth in countries outside of the Organization for Economic Cooperation and Development (OECD). Non-OECD consumption growth was an estimated 0.9 million BBL/d in 2015, and it is expected to be 1.3 million BBL/d in 2016 and 1.4 million BBL/d in 2017. China is projected to account for a significant portion of future demand growth by non-OECD countries. China's consumption of petroleum and other liquid fuels is forecast to grow by 0.4 million BBL/d in both 2016 and 2017.

On the natural gas side, the EIA projected total consumption would increase to about 76.6 billion cubic feet per day (Bcf/d) this year and 77.8 Bcf/d next year compared to consumption of 75.3 Bcf/d last year. Demand by the electric power sector is forecast to jump 5.1% this year as generators take advantage of low prices to switch fuels where possible. But next year, expected price increases are forecast to reduce demand by generators 1.5%. Industrial concerns are expected to increase consumption by 2.7% this year and 1.7% next year, as new fertilizer and chemical projects come online.

When it comes to gas prices, the EIA again has a bleak outlook in its STEO: Prices at Henry Hub, Louisiana, are forecast to fall to an average of $2.22 per million British thermal units (MMBtu) this year, down from an average of $2.63 per MMBtu in 2015. The outlook gets better in 2017, when the agency sees Henry Hub prices rising to a projected $2.96 per MMBtu.

The June STEO noted natural gas inventories hit 2.9 trillion cubic feet (Tcf) on May 27, which was 32% higher than the comparable year-earlier period and 35% over the five-year average for that week. By the end of October, the start of the winter heating season, the EIA projects gas inventories will balloon to 4.161 Tcf, the highest level on record.

Absent a sustained surge in demand, supply additions that outstrip demand growth are forecast to continue holding prices down for the foreseeable future. Prices may rise a bit if additions to storage are less than expected, but the EIA's overall view for gas seems to be, "lower for longer."

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