John,
Here is the issue out today:
Raymond James Energy “Stat of the Week”
One Production Cut Too Much – OPEC’s Latest Action
Over the past few years, it’s been our view that diminished OPEC excess production capacity would be a key factor supporting $25 per barrel oil prices on a sustained basis. Less excess production capacity by most of be lower than a year ago. We anticipate lesser non-OPEC production increases in West Africa (offshore Equatorial Guinea) and Latin America (offshore Brazil).
Oil Demand – China continues to lead the way. We assume 2.6% growth in oil-weighted global GDP in 2001, which is only modestly above the 2.0% GDP growth in the Asian contagion year of 1998. Our projected 2.6% growth in global GDP should translate to 0.8 million barrels, or 1.1%, global oil demand growth. In the U.S., our projections suggest oil demand would actually decline this year if it were not for the 0.3 million barrels per day of additional demand associated with fuel switching. Worldwide, China continues to exhibit the strongest growth in oil demand (~5%), although we are modeling a modestly slower rate growth than the past two years.
Oil inventory projections suggest OPEC has gone one cut too far. Given the reasonably close historical correlation in oil inventories and oil prices, we model projected changes
in oil inventories as a guide to the future direction of oil prices. As shown in the graph below, using the supply and demand assumptions discussed above and assuming OPEC’s announced 1.0 million barrel per day production cut translates to an actual cut of about a 0.7 million barrels per day, oil inventories could fall significantly during the 2001/2002 heating season. WTI Prices vs. Total U.S. Petroleum Inventories
Total U.S. Petroleum Inventories WTI Prices
Forecast
As shown in the graph above, a strong drop in oil inventories this winter suggest oil prices may once again
approach $30 per barrel and require OPEC to increase output in the fourth quarter of this year.
Conclusion
On the surface, the dramatic build in petroleum inventories in the second quarter supports the view that the oil market is over-supplied. However, looking behind the numbers, it becomes apparent that we may again experience an under-supplied market condition in the upcoming heating season. Not only are the third and fourth quarters sequentially higher demand periods, the oil inventory build experienced in the second quarter appears to have been artificially inflated by significantly higher year-over-year oil product imports. These factors point to the potential for an upward surprise in oil prices over the next six-to-eight months and the potential need for OPEC to increase oil output in the fourth quarter. Our current oil price forecast calls for
$25 and $26 per barrel oil prices in the third and fourth quarters, respectively. In addition, stronger crude oil
prices should translate to higher residual fuel oil prices and increase the likelihood of fuel switching to natural
gas, correspondingly increasing the longer-term bullish prospects for natural gas prices. Additional information is available on request. This document may not be reprinted without permission. RJA or its officers, employees, or affiliates may 1) currently own shares, options, rights or warrants and/or 2) execute transactions in the securities mentioned in this report that may or may not be consistent with this report's conclusions. the historically quota-cheating OPEC countries has limited their ability to oversupply the market. This has left more rational OPEC countries like Saudi Arabia, which has significant excess production capacity, in the position to regulate oil prices to achieve reasonable oil price objectives that balance the interests of oil producers and consumers.
In 2000, with reasonable growth in oil demand, compounded by a series of OPEC production cuts, oil prices averaged ~$30 per barrel. However, this year, conditions in the oil market have notably changed. Oil demand thus far in 2001 has been anemic, and even with the support of two OPEC production cuts totaling 2.5 million barrels per day earlier in the year, oil prices have softened to ~$26 per barrel. This softness in oil prices has coincided with a substantial, 41 million barrel build in API total petroleum inventories in the second quarter. Inventories currently stand at approximately their five-year average. Going-forward, conventional thinking suggests oil prices should fall below $20 per barrel. We disagree for the following reasons:
•OPEC’s latest output cut is evidence that the cartel has the will to maintain oil prices in the range of $25 per barrel WTI. On the surface, $25 per barrel oil prices appears to be a windfall for these countries, and based on just the cost of developing and producing a barrel of oil, it is. But these countries also have substantial external debt, massive social obligations and the need to develop
and diversify their economies. Taking into full account the fiscal demands placed on the political leaders of OPEC countries, it becomes clear an oil price above $20 per barrel is not a luxury. •To a certain degree, we believe that the market has lost sight of the fact that the second quarter is a seasonal build period. While it’s true that we had a large inventory build in the second quarter, the
majority of that build was due to a year-over-year increase in product imports from Europe into the U.S. (~30 million barrels), notably motor gasoline and residual fuel oil. Not surprisingly, corresponding European oil inventories have fallen by an amount similar to the U.S. inventory build.
•In the third quarter, we typically see a 1.5 million to 2.0 million barrel per day sequential increase in oil demand. Moreover, the loss of Iraqi oil exports in June should begin to show up in August as evidenced by current on-the-water tanker volumes, which have fallen roughly 35 million barrels. Prior to this latest OPEC cut, the market was already relatively balanced entering 3Q:01. Overall, our analysis indicates non-OPEC supply should increase roughly 0.5 million barrels a day, while oil demand should increase 0.8 million barrels per day in 2001. However, approximately 0.3 million barrels per day of oil demand this year is attributable to fuel switching in the U.S. Therefore, without the impact of fuel switching in the U.S., oil demand in 2001 would approximate the Asian contagion year of 1998 when demand grew by only 0.4 million barrels per day. Non-OPEC Oil Supply – FSU production increases partly offset by lower North Sea volumes.
Our supply-side analysis suggests that non-OPEC production should increase approximately 0.5 million barrels per day in 2001. Non-OPEC production increases come primarily from the Former Soviet Union (FSU), while North Sea production, particularly in the U.K. North Sea, appears to have rolled over and should
Jim |
