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Demand is rising fast, but prices won’t follow just yet

The International Energy Agency’s (IEA) latest oil-market report suggests the fundamentals are turning, led by demand

Oil consumers are responding to low oil prices the way economists say they ought to -- and it might mean the market has found its bottom.

The International Energy Agency’s (IEA) latest oil-market report suggests the fundamentals are turning, led by demand. It will rise this year by 1.6m barrels/day, to 94.2m, a sharp upwards revision from last month’s report of 300,000 b/d. Consumption will grow in 2015 by more than twice the pace of 2014.

The new numbers reflect more health in the global economy, but also the response of consumers to low prices, thinks the IEA. In the US, gasoline demand is near a record high. Chinese, Brazilian and even Russian demand estimates have been adjusted up.

Prices are at last beginning to curb non-Opec production growth too, says the IEA. It will rise by 1.1m b/d this year, well below last year’s 2.4m b/d. In 2016, it will fall by 200,000 b/d.

It gives the market’s bulls something to chew on. One of them, Wall Street research firm Bernstein, says 2016 is now looking “favourable to pricing strength”, supporting its “above consensus long-term price deck”. It urged its clients to buy oil equities.

Oil prices only briefly rallied following the IEA’s report on August 12. By the time Petroleum Economist went to press, they had resumed their downward path. Brent was at 47.16/b and WTI at $40.80/b, with $40/b thought to be the level at which it might find technical support.

That’s about right. Despite the good demand news, several factors will still stop a major price recovery for now.

First, global production growth of 2.7m b/d this year is still outpacing demand. The overhang – 3m b/d in Q2 – will fall to 1.4m b/d in the second half of 2015, believes the IEA. The first stock draw will only come in Q4 2016. This will test storage levels around the world, the agency says.

Much of the excess comes from Opec, which produced 31.8m b/d in June and July, its highest in three years, despite a small drop from Saudi Arabia last month. Iran’s output is already rising, but will leap if sanctions are lifted as expected. Iraq’s production keeps growing and new unity talks in Libya offer potential for yet more oil. The glut could still overwhelm the IEA’s forecast in coming months.

Then there’s the US upstream. It shed 100,000 b/d of production between June and July. But another 10 rigs came back on line in early August, for a total of 884. Any demand-induced price rise now would fire up even more idled units. In that way, reactive tight oil already provides a virtual ceiling for prices.

The third hurdle for the market remains macroeconomics. Chinese demand in the first half of 2015 was almost 5.5% higher than last year. But the impact of its economic slowdown is not yet clear. Its new currency devaluation programme, designed to stimulate exports, could also affect its appetite for oil imports, which will now be more costly. Meanwhile, as the US Federal reserve gets ready to lift interest rates the strengthening of the dollar is another drag on prices.

Amid these mixed messages for the market, Opec can be pleased: much of the new demand is for its oil. The call on its crude will reach 30.8m b/d next year, predicts the IEA, a jump of 1.4m b/d compared with 2015. Its income has slumped and prices remain below the comfort level – but Opec’s customers are coming back.

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