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Oil rally has bulls on top, but $60-plus prices seen as hard to sustain

LiveMint logoLiveMint 26-09-2017 Alex Longley

London/Singapore: Oil bulls are back in the driving seat with $60 a barrel in sight, but it could be a short ride.

OPEC (Organisation of the Petroleum Exporting Countries) and Russia are cutting output deeper than ever, demand is surprisingly strong and the threat of Middle East disruption looms again. Global prices have jumped more than 20% since June, with Brent hitting a two-year high on Monday.

Yet the $60s are more likely to be a limit than a launchpad. Growing revenues could weaken the OPEC’s commitment to its supply deal, which many forecasters still say must be extended. US shale oil production is already growing rapidly, and higher prices could prompt another surge in drilling.

“Brent could go above $60 a barrel in the fourth quarter,” but may not be sustainable, said Giovanni Staunovo, a commodity analyst at UBS Group AG. “It would send the wrong message to US shale production to hold above there — drill and produce more.”

Still, after years of gloom, the mood in the oil market is shifting. At the annual Asia-Pacific petroleum conference in Singapore, one of the global oil industry’s biggest events, the mood at the evening cocktail parties this week was certainly more optimistic. The consensus was that demand will grow by 1.7 million to 1.8 million barrels a day this year, 400,000 to 500,000 more than expected at the start of the year.

“This rally here is much more fundamentally-based than the rallies we saw from March to April and during May,” Torbjorn Kjus, chief oil analyst at DNB Bank ASA in Oslo, said by phone. “Inventories are drawing down” and high refining margins suggest demand is strong.

That’s the situation right now, but the market looks more challenging in early 2018, when supply may surge again, according to David Fyfe, chief economist at oil trader Gunvor Group Ltd.

“If we break above $60, I believe that we will hold above it for the rest of the year,” Tamas Varga, an analyst at PVM Oil Associates Ltd, said by phone from London. “What is going to happen after 2017 is completely in the hands of OPEC.”

Many industry insiders, including a top executive at BP Plc’s trading arm, say OPEC and its allies will need to prolong their production cuts beyond the scheduled March expiry to avoid the glut making a comeback next year. So far, that remains uncertain. When the producers group met last week in Vienna, they stopped short of recommending an extension, while Russian energy minister Alexander Novak emphasised the need to start planning an exit strategy.

OPEC and its allies implemented even deeper cuts than required last month, but a period of higher prices could weaken their discipline. The market should worry about compliance if crude rises above $60, Waleed Al-Bader, deputy managing director for marketing, crude oil and petroleum products at Kuwait Petroleum Corp. said in Singapore.

Shale oil is the biggest threat to sustained high prices. Previous rallies have been quashed as firms in Texas and North Dakota responded quickly, locking in future crude sales so they could keep investing and pumping more.

“Returning fracking crews and the revival of uncompleted wells” mean US shale output will probably grow by 400,000 barrels a day in the next four months, said Alexandre Andlauer, an analyst at AlphaValue SAS.

Even the most bullish traders and executives in Singapore said that it would be nearly impossible for crude to hold above $65 a barrel next year for this reason.

“Anything above $60 a barrel is going to be a massive incentive for US shale to ramp up production,” Chris Bake, a senior executive at Vitol Group, the world’s top independent oil trader, said in an interview in Singapore. Bloomberg

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