22 December 2015

Oil price: who is betting on a recovery in 2016?

The oil price has been in recovery in recent days. Having hit a post-crisis low of close to $36 a barrel on Monday, it has since rallied and at one point yesterday it was back above $38 a barrel.

But this is still a painfully low price, close to 70 per cent below the September 2014 peak. While unprecedented production efficiency has protected drilling companies in a way few thought possible, in the North Sea, for example, it is still supposed to cost approaching $50 to extract a barrel of oil. This should be significantly higher in US shale oil fields.

The situation is worse for those countries that depend on oil as a source of income. Many Opec members in financial difficulty, such as Venezuela and Nigeria, the de facto cartel leader Saudi Arabia and even non-Opec export giant Russia, all designed budgets around oil prices in excess of $100 a barrel.

As investment is rapidly withdrawn and spending cut, these companies and countries are hoping prices will recover more quickly than markets currently expect. Encouragingly for them, there are experts who see that happening.

Liam Halligan wrote in the Daily Telegraph this week that prices will recover faster, as investment cuts are ramped up to cope with the latest price crash. Elsewhere, The Times reports that the Wellcome Trust has substantially increased its investment in energy stocks such as Shell and BP as it "builds into what markets are doing" and takes advantage of perceived bargains ahead of an inevitable recovery.

Reuters says that there is also a wider market bet gaining traction for prices to recover to between $50 and $80 in 2016, with derivatives that would pay out in this range climbing "steeply" in recent weeks.

The downside is that investors broadly see this happening in around 12 months at the very end of 2016. Near-term bets are still on further falls, perhaps to around $30 in the early months of next year as Iranian exports re-emerge from behind international sanctions.

It will take an output concession from Opec to push the price higher sooner – and the group has seldom looked less cohesive on its production policy.
Oil price misses 11-year low – but for how long?

15 December

The oil price recovered in afternoon trading in New York yesterday, after coming close to 11-year lows earlier in the session.

International benchmark Brent crude had earlier tumbled below $37 a barrel in London and settled just 13 cents above the $38.20 it reached in September 2008 in the teeth of the global financial crisis.

Below this, it would be at the lowest level since July 2004, Reuters notes, when it briefly languished in the mid-$30 range after a protracted recovery from a single-digit mid-1990s trough.

The rally yesterday, during which Brent bounced back two per cent, was not driven by particular fundamentals.

Rather, it was a function of inevitable volatility in a market that is currently beset by 'short' bets on a lower price. This morning Brent was sitting a little above $38 a barrel, which is still unprofitable for most production.

'Long' positions – bets on a higher price – are now at the lowest since records were first compiled in 2009.

This means two things: there will probably be some wild swings, as 'short positions' are rapidly covered any time the price ticks upwards even slightly; and most traders and analysts are still convinced the market has not found its bottom.

Where could that bottom be? A technical analysis has been offered by legendary data trader Daryl Guppy, who writes on CNBC that current trend charts indicate "prices have further to fall".

Based on historical support levels and general trading patterns, he sets a main target for the price floor at a little below $30 a barrel, near that 2004 nadir.

There is a consensus fast emerging that a price around this level will be reached before the supply glut clears next year - but there are those who believe if this does happen it will presage a faster recovery than some are currently expecting.

Echoing the Shell chief executive Ben van Beurden, who warned in October that rapid retrenchment could cause oil prices to spike, Nick Cunningham writes on Oilprice.com that another big step down in prices could "spark deeper cuts to spending and drilling, which could perhaps contribute to an accelerated pace of adjustment".
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