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Predicting oil prices

Bulging stocks, US output gains and Opec's need to make further production cuts are derailing a recovery in oil prices, according to AOGC 2017’s conference chairman

Rising inventories suggest oil prices could well head down before any recovery, though the crude market is likely to reach balance earlier than its gas counterpart, according to Fereidun Fesharaki, AOGC 2017 conference chairman.

"What impacts the price is not actually supply-demand fundamentals. The paper players—the speculators in the market—they only watch one thing: inventories," he told delegates.

With a luminous crystal ball at his side to inform his future-gazing, Fesharaki, chairman of consultancy FGE, said that while players across the oil industry had done a remarkable job in ensuring compliance with production cuts demanded by Opec, oil inventories were stubbornly refusing to go down.

"A lot of offshore inventories have been reduced, but onshore it still looks pretty grim," he said. Unexpectedly rapid growth in oil production in the US is one problem for those keen to see the market rebalance. There, output growth is set to be double earlier forecasts, adding around 1.2m b/d in the near future, according to Fesharaki. But, it's not just the US—oil production is also picking up in places such as Libya, where civil war has all but halted exports in recent years, and Kazakhstan, from the Kashagan field.

Much of this new production is the result of investment made years ago—well before the oil price slide. Severely curtailed investment in today's tougher conditions will eventually be reflected in restrained oil output down the line. However, those relying on this shift to bring the oil market back into equilibrium in the short term are likely to be disappointed, according to Fesharaki's crystal ball.

He thought it was unlikely that the effects of this lack of investment would feed into market rebalancing for another five to seven years, at which point it was possible oil prices could rise to $60-$70 per barrel.

"Opec can trigger cuts, but that is not enough. You have to keep the production cuts and then cut more. If you don't do that then prices will begin to go down," he said. "Where does it go. Maybe to $40/b, maybe less—and this can happen in just the next few months, if there is only an extension of the Opec agreement [on production cuts], without additional cuts" he said.

Opec needed to reduce production by at least 0.5-0.7m b/d beyond the existing agreed cuts to halt the price slide and keep the oil price in the $50-60/b range, he added. "But who wants to do it? I don't think anyone is volunteering to cut," he said.

Downstream capacity dearth

While the refining sector is benefitting from the same low oil price that is hindering upstream, that part of the industry could not afford to be complacent and faced a capacity shortage as demand continued to grow, especially in Asia.

Fesharaki noted that there were few, if any, new refineries opening in China, India and the Middle East this year, and that while some were under construction, most of that capacity would not be on stream until the early 2020s. The potential for a refining capacity shortage was further exacerbated by the configuration of many existing facilities, which were designed specifically to maximise diesel production—not ideal when diesel was falling out of favour in some countries and gasoline demand was generally growing much faster.

For Asian importers, the looming imbalance would only be tackled by increasing imports from the US or building refineries at home, he warned—and any fears that a surge in the electric vehicle (EV) market would dampen demand for gasoline, making new refining capacity redundant, should be discounted.

Fesharaki asserted that even if the EV market grew at 30% per year over the next few years, it would still only have a small share of the overall vehicle market, compared to oil-fuelled cars.

"Please don't be put off building a refinery," he said. "Electric vehicles aren't going to replace the internal combustion engine in the next 20 or 30 years."

The crystal ball offered little in the way of optimism for LNG producers over the next decade, but Fesharaki was more positive about the longer-term outlook. While there was little chance of substantial investment in fresh LNG production capacity outside of the US and one or two other hotspots in the near future, given the current growing global LNG glut, this would result in substantial capacity shortages in the second half of the 2020s.

The overall message for the supply side of the hydrocarbons industry from the Fesharaki crystal ball seems to be: good things come to those who wait.

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