Analysts: Oil Market Rebalancing Nears As Non-OPEC Production Falls

No one knows for sure what will come of the much-anticipated meeting in Doha on a possible oil production freeze to help the oil and gas sector emerge from its two-year commodity price funk.

But as some of the biggest oil producers in the world prepare to meet April 17, a group of analysts is confident that market conditions will rebalance by mid-year, and the signs are evident. Others say any action, or inaction, at the meeting is likely to have little impact.

“We can demonstrate that the red line did turn last year from up to sideways,” Jan Stuart, global energy economist for Credit Suisse’s Equity Research, said referring to falling global supply, which he believes will intersect with rising demand sometime this summer sparking the rebalance. “We are saying again that the middle of this year is going to see an inflection point from supply surplus to a flowing supply deficit.”

Credit Suisse analysts believe the inventory surplus is not nearly as big as some believe. Speaking during a conference call April 13, Stuart put the number around 800 million barrels (MMbbl) as of the end of January 2016. But when China’s SPR is removed from the mix and demand is adjusted, the analyst said the real surplus is closer to 300 MMbbl.

The insight came as the oil and gas industry continued to cope will lower commodity prices, the result of a worldwide supply-demand imbalance. The industry appeared optimistic on hopes that an OPEC and non-OPEC deal to freeze production would provide some relief to dire market conditions, but such actions may be too little, too late.

“In reality, whether or not an agreement is reached to freeze production will likely have little impact on physical markets, but the outcome and any apparent cohesion or lack thereof among participants should drive the next directional move in prices,” Barclays said April 12. “Yet for all the noise about the freeze in output levels from key participants the real drivers of a rebalancing of the market remain a combination of demand growth and non-OPEC supply adjustments.”

Barclays expects non-OPEC supply to fall in 2016 by more than 1.2 MMbbl/d, its biggest drop since 1992, as demand grows, perhaps by 1 MMbbl/d.

Like Credit Suisse, Barclays pointed to falling non-OPEC supply as evidence that the market is starting to rebalance itself and will pick up pace in second-half 2016.

Production slowdowns in not only the U.S. but also maintenance in the North Sea, interruptions in Canada, Indian declines and Chinese declines, compared to increases in Russia are telling, Stuart said.

In its April oil market report, released April 13, OPEC revised its non-OPEC supply forecast for 2016, saying “the expected contraction in non-OPEC oil supply will be slightly more than forecast, with output falling by 0.73 mb/d to average 56.39 mb/d.”

The cartel also lowered its demand growth forecast, pointing to “slower economic momentum in Latin America” and concerns in China for 2016. Global oil demand will grow by about 1.2 MMbbl/d, OPEC said in the monthly report. The amount is about 50,000 bbl/d less than previously expected.

Credit Suisse predicts non-OPEC production will decline further next year.

Ed Westlake, co-head of global oil and gas for Credit Suisse’s Equity Research, added, “We fully expect that with the low industry cash flows of the last two years, the decline rate will probably accelerate.” He estimated the non-OPEC decline would be around 700,000 bbl/d in 2017, but the cumulative decline from non-OPEC over the next three years could be about 2 MMbbl/d or greater.

“As non-OPEC production falls outside the U.S. we will be reliant on OPEC, [including] Iran and Libya … and we will be reliant on American shale producers to meet the gap,” Westlake said. “Yet some of the North American shale producers are still fairly gun-shy.”

Having seen profits crushed due to the supply-demand imbalance that sank oil prices, Westlake said shale producers are watching inventory levels wanting to see them come down before they grow production.

As for future OPEC production, Iran has already vowed to increase production to pre-sanction levels. In addition, Stuart predicts Libyan oil production will double and production from OPEC powerhouse Saudi Arabia will be flat, “despite their own admitted decline rate.”

He added “the macro is uncertain, and I’m being polite,” noting there are risks around everything, whether it’s a recession or declining IP trends.

In its oil market report, OPEC said that demand in 2016 for its crude is projected at 31.5 MMbbl/d, essentially unchanged from its previous report.

In all, analysts at Credit Suisse expect continued “healthy growth” in oil demand through 2016. This includes both OECD and non-OECD countries, despite Asia slowing.

As market rebalancing takes shape, Stuart said oil prices could move from the high $30s/bbl to end the year in the mid-$40s, jumping to $60-$65/bbl in the second-half of 2017. But he refused to dismiss the “bear” scenario, saying “the world could look very, very ugly in six months’ time, and I’m not even talking about Mr. Trump.”

Analysts suggested keeping eyes on two things: weekly U.S. inventories and the Brent futures strip’s near-term structure. “If we are right, the U.S. stock surplus will decline starting this spring, and globally things will tighten,” Credit Suisse said.

Velda Addison can be reached at vaddison@hartenergy.com.