Wednesday, December 30, 2015

Oil and Gas Outlook: 2016 Will Be about the Same as 2015?

This may be the biggest question when 2015 is being wrapped up and 2016 is just around the corner: What will be the state of oil and gas industry in 2016? Rather, how about oil prices, and supply and demand outlook in the upcoming year? Here are few answers!

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Trying to predict the trends of oil prices is difficult and the results are just, more often than not, disappointing, especially when we turn a blind eye to the facts and figures and rely on hope and indulge in wishful thinking. A year ago after OPEC’s decision not to cut oil output and keep the oil market over-supplied, a number of oil industry analysts, professionals and CEOs were expecting the recovery of oil prices in a short time. That’s why the oil and gas industry’s reaction to the current downturn in oil prices was not as fast as it should have been, and the aftermath in many cases were just catastrophic.  

2015 will end in a few days. The highly anticipated December 2015 OPEC meeting is over, and the outcome tells us that this organization isn’t going to cut its current output level unless non-OPEC members cooperate in doing so. Thus, many questions have been arising related to the oil and gas industry and whether 2016 will be just about the same as 2015, or will be a more pretty year. Oil prices will remain low or rebound in 2016? How about the 2016 supply and demand outlook, and can it change the course of events? Such questions are what many oil and gas professionals, investors, companies eagerly want the answers to. And here are few questions. 

Where will oil prices be next year?

It is absolutely unrealistic to state a specific number. Still, looking at the big picture and taking the long-term goals of OPEC as well as non-OPEC producers into consideration, a range of oil price can be identified. 

Long-term goal of OPEC

Currently, OPEC pays particular attention to protecting its market share and squeezing the rivals of conventional oil producers out of the market. 

Long-term goal of non-OPEC producers
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Non-OPEC producers are now focused on surviving the current low-oil-price environment through cost-cutting measures and counting on advanced technology.
Meanwhile, the long-term goal of non-OPEC producers like U.S shale oil producers is, clearly, surviving the current low oil price environment by taking cost-cutting measures and counting on innovation and technology that can raise efficiency and reduce the production cost. 

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A look at the big picture

After taking into account these long-term goals of both OPEC and non-OPEC producers, now let’s look at the big picture to more clearly identify where the oil prices will be in 2016.

OPEC is now trying to make the recovery of oil prices dependent on the cooperation of non-OPEC members to cut the oil production, which was made clear during its last meeting. In other words, OPEC won’t cut production unless non-OPEC producers agreed to cooperate in cutting the oil production as well. 

It’s extremely important to emphasize that it’s highly unlikely that oil prices will increase to levels above $80/ barrel again even if non-OPEC producers shook hands with OPEC in cutting production. Why? 

It’s because of the long-term strategy. Actually, the return of high oil prices – rather, the return of oil prices to the levels slightly above the high-cost oil producers’ break-even like U.S shale oil producers – means giving the OPEC’s rivals the chance to come back and make money. And this is a long-term threat to such conventional oil producers as OPEC members. What OPEC is doing right now is to keep the oil prices at levels that its members make money and their rival don’t. That is how the conventional oil producers squeeze their rivals out of market and kill the shale revolution. Simply speaking, high oil prices would pose a long-term threat to OPEC. 

Whilst OPEC is determined with its market-share strategy, U.S shale oil producers are trying hard for survival. Amidst the current low oil price environment, now few U.S shale oil producers are losing, but it seems better to hope that there will be a miracle and oil prices will go up than to go out of the market. The U.S shale oil producers are counting on factors that will drive up oil prices – for example, economic growth as a result of low oil prices, increased demand, decreased supply due to declined upstream investment. Still, in the current circumstances, this will take time, because of low economic growth, lagging demand and over-supplied oil market.  

So where will oil prices be in 2016?

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Notwithstanding how complex the situation is and how unpredictable oil prices are, the bottom lines are clear. The return of high oil prices to the levels above break-even of U.S. shale oil producers would pose a long-term threat to OPEC as it would mean allowing shale oil to become economical and thereby creating completion for OPEC. Meanwhile, oil prices being below $30 per barrel is unlikely to happen because OPEC obviously will be losing much. That’s why keeping oil prices at levels between $35/ barrel to $75/ barrel is a key priority for OPEC to keep its share of the world’s oil market. 

How about 2016 supply and demand outlook?

The supply and demand equation is a primary factor of controlling oil prices. Thus, how oil prices will change in the upcoming year mainly depends on how the 2016 supply and demand outlook will look. The problem is that oil price prediction based on the supply and demand outlook is really complex, and its complexity is originated from the fact that there are some vital variables with a huge impact on the supply and demand outlook. These variables include, but are not limited to, OPEC’s next move, geopolitical flash-points and economic growth. The variables are unpredictable most of the time. Thus, aside from the facts and figures of the current supply and demand, taking these variables into consideration is essential in predicting the supply and demand outlook in 2016. 

Regardless how dim the oil market looks like right now, there are some important signs that tell us a lot about the 2016 supply and demand outlook. On the supply side, the world’s oil markets remain over-supplied, and OPEC won’t the one to rescue the market. Indeed, OPEC’s current production level is about 31.8 mb/d, which exceeds the official target of 30 mb/d. Also, some OPEC members like Iraq, Iran, UAE and Libya are working on raising their oil output. For example, Iran is planning to raise its oil production by 500,000 to 1 mb/d over the next year or so. And clearly, now, OPEC is officially allowing its members to raise oil outputs above the official target of 30 mb/d.

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Similarly, such non-OPEC countries as Russia are working on increasing their output, to cover their losses triggered by the current low-oil-price environment. Also, notably, regardless of the continuous drop in the U.S rig count that used to be a sign of drop in oil production, the U.S production isn’t decreasing as expected. This is because of the advanced technology applied to boost production and offset or delay the impacts of decreasing rig counts. 

On the demand side, the current demand for oil and projected demand growth don’t signal any positive sign of oil price recovery. As per the International Energy Agency’s Oil Market Report, the world’s demand growth is predicted to reduce to 1.2 mb/d in 2016 following a surge to 1.8 mb/d in 2015.

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Hence, as lots of OPEC and non-OPEC countries are working to increase their output to weather the impacts of low oil prices on their oil revenues and due to the fact that the oil demand is lagging behind, the supply and demand outlook in 2016 tells that the low-oil-price environment will continue for a long time. The oil and gas industry in the coming year will continue to experience a slowing crude oil consumption and definitely an oversupplied market. The only way it can be changed is if there is any cooperation between OPEC and non-OPEC on oil production cuts, or in case of any geopolitical flash-points that we don’t hope for. Still, that may seem unlikely to happen when the battle for market share is really fierce, and involving many producers even within OPEC. 

Overall,

The oil and gas industry in 2016 will continue to experience the negative impacts of the current low oil prices but with reduced intensity because it adapts to the low-oil-price environment. It will continue to consolidate, and many mergers and accusations will take place. The world’s exploration and production (E&P) activities will witness a slowdown because E&P expenditure that has, thus far, declined by 20%, will also fall by 11% in 2016, as per Evercore ISI's 'Global 2016 E&P Spending Outlook: An Industry Mired in Recession’. 

Levels of crude oil global stockpile will keep increasing and a phase out of fossil fuel subsidies in numerous parts of the world will continue to emerge as well when many countries leverage the current low oil prices. Demand will increase slowly though, that will be counterbalanced by overabundant oil supply and huge stockpile. And lastly, the oil prices will remain in the levels between $35 to $60/ barrel unless there occurs a sudden geopolitical event, or an agreement on oil production cuts is reached between OPEC and non-OPEC. 



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