[Premium] Oil Price to Continue to be Volatile: IP Week (Update)

(Adds BofAML view on prices at end)

The price of dated Brent crude will continue to be volatile and the US cannot be compared with a swing producer such as Saudi Arabia, according to speakers at an IP Week panel February 20. About two thirds of the delegates who expressed a view thought that crude would be be between $60 and $70/barrel, which confirmed the humorous view of Statoil's economist Eirik Waerness that forecasters simply take today's trends and project them as far into the future as possible.

He said that he expected the marginal cost of oil – in other words the full-cycle cost of producing profitably what would be the 110 millionth barrel of supply needed to meet global demand in 2030 – would be $80, give or take. Among the unknowns were whether the "fantastic" cost reductions seen in recent years would continue: Statoil had cut the cost of production of its new projects to $21/b over the next few years, where it had been $70/b. "Will technology continue to keep costs down?" he asked.

Another speaker, Robert McNally the founder of Rapidan, argued that volatility would continue as there was no equivalent of the Texas Railroad Commission, which centrally planned the oil output in conjunction with the Seven Sisters and forced wells to close once the limit had been reached, in order to keep prices steady.

"What makes for stability is flexible supply," he said. Unlike true swing producers, the output of US shale oil does not rise and fall instantaneously but takes weeks to come about, as different economics mobilise disparate producers. Meanwhile the traditional swing producer, Saudi Arabia, is the sole provider but it is in "a dangerous world." He said the price spike of 2008, when crude hit $140/b, came about because it was working flat out and there was no spare capacity.

He found seven key differences between US shale producers and the Opec world, or before that, the world of the Texans, including the legal ability to enforce production and maintain price stability, and a coherent, institutional structure. Spare capacity needs to be built up and that will not happen in the US, as it is a free market.

Vitol's head of research Giovanni Serio said he saw volatility rising, with 200mn barrels less inventory than one year ago, coupled with geopolitical events. These had pushed crude up from $45/b to $70/b, he said. Opec's view is that tight oil from the US – the biggest non-Opec contributor to supply – would peak in the middle of the next decade, while Opec supply would rise by almost a third to reach 41.4mn b/d by 2040.

Research head Ayed Al-Qahtani said that Opec welcomed US oil, needed to meet growing oil demand growth worldwide, but said it was a short-term phenomenon, unlike Opec managed crude production aimed at stabilising the market. He pointed to the output discipline achieved over the past year and noted the contributions also from the non-Opec countries that had supported the group's objective of reining in outupt, notably Russia. The overall effect had been cuts that were well above those agreed, he said. However, the cuts were relative to a very high level of Opec output in the months preceding it. 

Harvest and quit?

Replying to a question from NGW regarding the inherent oil price weakness proposed by UK energy economist Dieter Helm, Waerness said that Helm had, in his book Burn Out, taken some of his earlier arguments to extremes. Helm's view in a nutshell is that with more oil in the earth than can be consumed, if the world is to limit its carbon emissions, there will be countries and companies holding unusable reserves and hence the ultimate price will be zero.

Waerness conceded that in a world where demand has peaked, "probably in the next couple of decades", it will be difficult to stimulate investment to develop increasingly expensive reserves. He said we have never been in a situation like that, so we do not know what the effect will be on prices. However, there will be another few billion people on earth by 2050, and it is not certain the energy efficiency gains will continue; and the world's increasingly wealth population will want higher standards of living.

BofAML comments on price

Brent oil prices will average $50 to $70 through 2023 with risk skewed to the upside, according to Bank of America Merrill Lynch in a report published February 21. It said compared with last year, it sees robust cyclical oil demand through 2020 and a deceleration thereafter as electric vehicle (EV) use rises.

Global oil consumption expanded in the "best three-year run rate since 2012 when demand recovered from the Great Recession, and inventories are starting to approach the five-year average," it said. "Yet oil prices have also recovered thanks to an Opec/non-Opec 1.8 mn b/d supply cut deal that will likely be unwound over a period of three years starting in early 2019. With longer-dated WTI prices now comfortably above $50/b, we also expect US shale supply to deliver average annual growth of 700,000 b/d through 2023.

"We continue to believe that US shale oil producers will deliver strong supply gains through 2023. However, we think much of this growth is front-loaded to match demand in the 2018-20 period.... Should shale technology continue to improve and bring cost breakevens lower, there is a risk of oil prices slipping below our projected band by 2021," it said.

Upside risks include faster-than-expected global oil demand growth, steeper-than-expected conventional oil production decline rates, geopolitics, and accelerating global inflation, it said.