Oil Markets Are In For Wild Ride In 2019
If you thought global oil markets were a rollercoaster ride in 2018, better buckle up.
Last year was certainly chaotic with international benchmark Brent prices surging above $85 a barrel in October, only to plunge 40% in the final months of the year to close under $54. Huge swings in market sentiment took a big toll on prices as supply shortage fears quickly turned into concerns about oversupply.
As 2019 begins, the same market forces that whipsawed prices last year remain in play – only with an extra dash of unpredictability. The cartel of Organization of Petroleum Exporting Countries (OPEC), Iran sanctions, surging U.S. production, shaky demand, endless trade disputes and broader tumult in global financial markets will keep plenty of traders up nights trying to gauge the direction of oil prices.
Making sense of these flash points will be crucial to understanding where oil prices are headed. The current mood is bearish and most market drivers suggest it will be difficult for oil prices to sustain any meaningful rally. Oil producers and the contractors that serve them, including Canary, LLC, should prepare for a rough road ahead – at least in the near term. Maybe oil doesn’t drop below $30 a barrel as it did in early 2016, but prices in the $40 to $50 a barrel range could present serious challenges to the industry.
Here are the five most essential forces affecting oil markets this year:
The OPEC deal that doesn’t go far enough. The agreement among the expanded OPEC group that also includes Russia last month to cut 1.2 million barrels a day from their collective production in the first six months of this year is not enough to balance the market and support higher prices. Best case scenario, the deal puts a $50 floor under Brent prices.
The cartel needed to cut closer 2 million barrels a day to have an impact on prices. Failing that, the Saudis and Russians will need to extend the cuts through the end of 2019. Will it happen? Probably, given that OPEC members are dependent on higher oil prices to run their economies.
OPEC is off to a good start. In December, the cartel’s production plunged by the most in almost two years , dropping by 530,000 barrels per day – including 420,000 barrels a day from Saudi Arabia alone. Traders will be closely monitoring compliance.
But there’s still reason to be concerned. Russia has traditionally been slow to implement promised cuts, while Iraq, OPEC’s number two producer, reported record high output and exports in December and desperately needs all the revenue it can generate to rebuild after years of conflict. Nigeria, meanwhile, is already gaming the system by defining significant amounts of its crude production as condensate, which is exempt from the output cuts. Saudi Arabia insists it won’t balance the market on its back alone, but watch for that oath to be tested in coming months.
Trump’s Iran sanctions wild card. A key inflection point for oil markets in 2019 occurs in April or May when the Trump administration must decide whether to extend waivers to buyers of Iranian oil or crack down further on the country’s exports President Trump’s lenient approach to sanctions enforcement surprised markets in November, after repeatedly promising to cut Iran’s oil sales to zero.
Iran’s exports peaked in 2018 at 2.8 million barrels a day in April, but declined steadily between July and December; falling by nearly a third by the end of the year. Iran has about 1 million barrels a day of exports that the United States could still target. President Trump may be tempted to do so if the market remains oversupplied.
While China, India and Turkey have intend to keep buying Iranian crude regardless of U.S. sanctions, Trump could knock a few hundred thousand barrels a day of additional Iranian exports offline by applying pressure on other countries previously granted waivers, including allies South Korea, Japan, Italy and Greece.
The never-ending party in the shale patch. America’s oil production hit new all-time highs almost every month in 2018, growing a staggering 1.7 million barrels a day or an increase of nearly 20%. U.S. production is expected to exceed 12 million barrels a day by mid-year, and average 12.1 million barrels a day in 2019, according to the most recent government forecasts. But it’s a safe bet that shale output surpasses expectations once again, particularly since new pipelines will come online later this year in the Permian Basin, easing bottlenecks.
Three cheers for American innovation and ingenuity. Shale producers continue to find ways to increase output – they have overcome low prices, infrastructure constraints and capital concerns. The shale boom now seems unstoppable. It’s also a big headache for OPEC – one that could ultimately be the cartel’s undoing if low-cost Mideast producers get fed up with ceding market share to shale and launch another price war.
The stakes for OPEC are increasing. America is rapidly becoming an energy exporting giant. U.S. oil exports have been pushing 2 million barrels a day, an increase of nearly 30% from this time last year. In 2019, the United States could export up to 25% of its domestic oil production, making U.S. producers much more sensitive to global supply and demand.
Some domestic producers have trimmed capital spending plans for 2019 due to weak prices, but the cuts are modest and won’t disrupt the wind in the sector’s sails.
Uncertain demand. OPEC’s production cuts have been instrumental in rebalancing markets the past two years. But high-demand growth has historically been a critical factor, too. The question is, can they continue against the current economic headwinds?
Global oil demand growth was about 1.5 million barrels a day in 2017 and 2018, up from historical rates of roughly 1.2 million. China has been the primary engine of global demand growth in recent years, but its economy is set to slow.
The economic impact of the trade fight between the United States and China has not yet been fully felt. Worries about a global recession still exist and will mount if trade relations don’t improve. The effect could be a drop in global oil demand to below 1 million barrels a day.
Turmoil in financial markets. Even if oil market fundamentals come into better balance, the effect on prices may not be so profound if overall investor sentiment doesn’t improve. At the moment, oil prices are inextricable from global risk sentiment, and the mood is bearish.
The poor performance of U.S. stocks last year – the worst performance since the 2008 financial crisis – says it all. Oil and other investments are weighed down by fears of an economic slowdown, omnipresent trade issues, rising interest rates, uncertainty about the president’s economic policies and the general uncertainty with Democrats now in control of the House. Improving the trade situation could bolster investor confidence. The Federal Reserve, however, appears intent on raising interest rates, which are a weight on oil prices.