Increasingly Weak Demand Outlook Caps Oil Prices

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By Nick Cunningham

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Oil demand continues to soften, which could result in a supply surplus in the second half of this year.

In its latest Short-Term Energy Outlook, the EIA downgraded its forecast for global oil demand growth to just 1.1 million barrels per day (mb/d) this year, down from the 1.2 mb/d the agency forecasted last month and from 1.4 mb/d in May.

The “increasingly weak outlook” for demand could upend global balances. In June, the EIA thought that global inventories would decline by a rather significant 0.3 mb/d in 2019, as OPEC+ cuts and still robust consumption tightened up the oil market.

What a difference a month makes. The souring economic picture now means that inventories could actually increase by 0.1 mb/d, the agency said in its latest report. In other words, even with the OPEC+ cuts extended, the oil market could remain in a state of surplus throughout this year and next.

The IEA and OPEC report their versions of the monthly oil market report later this week, both of which could contain some downward revisions in demand. “While the IEA reduced its 2019 demand growth forecast by 120kb/d to 1.18mb/d in its June report, it increased its forecast for H2-2019 y/y growth by 130kb/d to 1.64mb/d,” Standard Chartered wrote in a recent report. “[W]e expect to see that forecast scaled back in coming months.”

The top energy forecasters may also be a bit too optimistic on 2020 figures as well. “The IEA expects US oil demand growth to accelerate to 350kb/d in 2020 from 180kb/d in 2019; we think this runs counter to the trend of most forecasts for the US economy,” Standard Chartered added.

But, the supply side of the equation is also bearish. The growth of U.S. oil production alone could exceed the increase in total worldwide consumption. While the world will consume an additional 1.1 mb/d this year, the U.S. could add 1.4 mb/d, with most of the growth coming from the Permian. Texas and New Mexico will add more barrels to the global market than all of the world’s consumers can handle.

That is an impressive feat for shale drillers, but as has been exhaustively chronicled in recent months and years, record production doesn’t necessarily add up to profits for the industry.

In fact, despite the lofty projections for shale growth by the EIA, the industry is facing financial pressure with oil prices at their current levels. The rig count continues to fall. Standard Chartered noted that there has been a pronounced drop off in drilling activity in Oklahoma, where companies are growing disillusioned with the SCOOP and STACK plays. The shale plays were once thought of as sort of the “next Permian,” but drilling results have proved disappointing. The rock formations have turned out to be more complex than previously thought, the output less than hoped for, and as a result, the financial returns have been poor.

“The [year-on-year] fall in Oklahoma’s oil drilling is 41 (31.1%), which together with the 54 rigs y/y in fall Texas (11.1%) more than fully accounts for the 75 rigs fall in total US oil drilling,” Standard Chartered pointed out.

The next near-term catalyst for the oil market will be decisions made by the U.S. Federal Reserve. Evidence of a mounting economic slowdown are widely expected to result in interest rate cuts, although how far the central bank will roll back recent hikes remains to be seen. On Wednesday and Thursday, Fed Chairman Jerome Powell will testify before Congress, which will likely offer more clues into the bank’s plans.

A rate cut could provide a jolt to crude prices, both because lower interest rates are likely to extend the economic expansion and because lower rates tend to drag down the dollar, which would make crude more affordable to many people around the globe. However, with all of that said, a rate cut is already somewhat factored into oil prices, which would reduce the impact when the Fed announces the move.

One uncertainty is the extent to which the latest strong jobs report undercuts the rationale for rate cuts. The dollar gained strength after the U.S. government reported unexpectedly strong employment growth in June, suggesting that traders began to price in smaller interest rate cuts. “In the bigger picture, oil prices are stuck between the positive impact of the trade war ceasefire and OPEC+ cuts, and the negative impact of a higher dollar and weak global macroeconomic data,” Jens Naervig Pedersen, a senior analyst at Danske Bank A/S, told Bloomberg.

By Nick Cunningham of


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