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Higher Oil Prices Likely To Happen Sooner Than Later

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http://seekingalpha.com/article/3999367-higher-oil-prices-likely-happen-sooner-later?li_source=LI&li_medium=liftigniter-widget

Daryl Montgomery Daryl MontgomeryFollow(2,463 followers)
Techincal Analysis, ETF investing, contrarian, macro
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Summary

The IEA has released projections showing large deficits in oil production versus demand for 2016 and 2017.

The Saudi Oil Minister has announced the Kingdom will cooperate with its fellow OPEC members to help "stabilize" the market.

The fundamentals with OPEC cooperation should fuel an oil rally well into 2017.

The supply/demand fundamentals of the oil market have been rapidly shifting toward the bullish side during 2016 and will continue to do so in 2017. The IEA (International Energy Agency) now forecasts 2016 global production to decrease by 900,000 barrels per day (bpd) and consumption to increase by 1.4 million bpd, creating a whopping 2.3 million bpd deficit. The supply/demand shortfall is projected to continue into 2017 with production rising by 300,000 bpd, but consumption increasing by more at 1.2 million bpd, leaving a 900,000 bpd hole of excess demand. Added to this, the Saudi oil minister stated on August 11th that Saudi Arabia would work with other oil producers, both OPEC and non-OPEC, to help "stabilize" prices.

The inability of the oil market to fulfill ever-increasing demand (up on average by 1.6 million bpd between 2009 and 2015) is inevitable this time around as it has been over and over again in the last several decades (there tends to be an oil price collapse every five to seven years followed by a rebound to sometimes much higher prices than the previous peak). This happens because while global demand increases at a fairly steady rate, supply tends to come online in big increments (what mathematicians would call a step-wise function) usually because of discovery of major new fields. New production from the mega oil fields of the North Sea, Gulf of Mexico and the North Slope of Alaska is what stopped the 1970s oil rally and kept prices mostly depressed until 1998 (prices tested their 1980 highs during the Gulf War in 1990-91).

This time around, it wasn't production from new conventional fields that produced the temporary supply glut, but technology that increased the supply both in North America and the Middle East. Ramping up production through technology is only needed for oil that is difficult to get out of the ground or is not usable in its natural state. Oil production was increased dramatically in North America by fracking, which involves injecting water, sand and/or corrosive chemicals at high pressure to create cracks in subterranean rocks to connect isolated oil or gas pockets. The peak production increase was in 2014 and the IEA has predicted production will fall significantly in 2016 (see chart). The fracking boom was fueled by almost unlimited cheap and easy credit, but as some frackers started to default on their loans, U.S. banks have pulled the plug.



As the U.S. ramped up oil production after 2008, so did the Middle East (see chart). This seems to have been in response to high oil prices in the first half of 2008 when oil reached almost $150 a barrel. Middle Eastern countries turned on the spigots full blast, but realized they needed to bring marginal fields online if they wanted to increase production further. In response, the Saudis brought the Khurais and Manifa fields into production in subsequent years. Khurais had been abandoned in the early 1980s and required an injection of 4 million barrels per day of desalinated water that had to be pumped a distance from the Persian Gulf. Manifa produced only extra heavy oil contaminated with toxic vanadium. It required massive infrastructure investment before it could produce marketable oil.