Wall Street’s recent call for $40.00 crude oil has spooked many. Are crude oil prices in 2015 headed toward that level? Will they find support at $40.00 per barrel? Or will crude prices drop even further?
Since the day of reckoning (June 13, 2014), oil prices have been in a downward spiral, dropping nearly 60% from more than $106.00 per barrel to around $44.00 per barrel in early January.
Currently trading near $48.00 per barrel, the oil market has temporarily stabilized, but for how long? Supply disruptions in the Middle East paired with strong winter demand in the U.S. and news of declining oil rig counts have producers and investors alike hoping for a rebound. They shouldn’t hold their collective breath. The oil outlook for 2015 looks weak.
Record-Breaking Inventory Levels
A quick look at the numbers shows us that U.S. crude oil inventories average 928 million barrels over the long-term. (Source: Energy Information Administration web site, last accessed March 11, 2015.) Today, they stand at 1.14 billion barrels. At that level, the U.S. is swimming in oil.
The crude oil supply issue is not restricted to the U.S.; the global crude oil market is telling us the same story. In fact, worldwide production of crude oil must come down by roughly one million barrels daily to match the 2015 forecasted demand of 93.4 million barrels a day. (Source: International Energy Agency web site, last accessed March 11, 2015.)
The fact of the matter is that global stockpiles are growing and the markets are saturated. While many analysts blame the glut of oil on booming shale production, this is a little shortsighted. Why? Because global demand remains stagnant, and global demand is greater than shale output.
With the global economy looking weak, the only country firing on all cylinders is the U.S. In fact, the Federal Reserve is the only major central bank set to raise interest rates this year. This is in stark contrast to the 20-plus central banks around the world that have lowered their benchmark interest rates so far this year. Meanwhile, in Europe, long-term sovereign bonds like Germany’s offer a negative yield.
So rising crude oil prices on the back of strong global demand is a long-shot. From where I sit, everything is in place for continued oil price weakness—not a rebound.
Risks to the Downside
There is a clear disconnect with crude oil supply/demand metrics, so the idea of oil at $40.00 per barrel or even markedly lower is certainly not out of the question. Yes, rig counts have come down, but currently producing wells will not be capped. Instead, producers are looking to cut costs to stay operational…with high hopes that crude oil prices will rebound.
Analysts and investors may be surprised this time around. Not only are crude oil inventories at record levels, but the strength of the U.S. dollar will continue to weigh on crude oil prices.
The dollar is up more than 22% since the June peak of U.S. crude oil. Oil prices, on the other hand, have tanked. With the U.S. Fed expected to raise interest rates later this year, the U.S. dollar is expected to continue its meteoric rise.
What else could lead to a collapse in crude oil prices? Despite the world being awash in oil, producers are itching to raise production at any sign of a price increase. Many are currently raising capital to strengthen their balance sheet in order to ramp up production at a moment’s notice.
Oil Forecast 2015: What’s Really Ahead for Oil Prices?
All energy users, from importing nations to businesses and the consumer on Main Street, should benefit from cheaper energy prices. Many on the Street expect cheaper oil prices to translate into greater discretionary incomes for the average consumer. But while oil has collapsed 60%, the decline in prices at the pump have only been half of that.
I question the immediate impact lower crude oil prices are having on consumers, just like I am dubious about the effect of recent capital budget cuts by the major producers. It will take some time for balance to be restored in the market, and more cuts could be on the way.
In this case, it’s useful to look at fundamentals. The latest crude inventory numbers, released March 11, point to a continued buildup in stockpiles. In fact, producers have added 62 million barrels to the U.S. stockpile of crude oil this year alone. With massive crude oil stockpiles and anemic global demand, an oil price drop to $40.00 per barrel or even lower could be just around the corner.