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Compass Preview: Over Supplied Oil Markets

6 MINS READFeb 27, 2015 | 20:48 GMT

Cole Altom: Hello everyone, I'm Cole Altom. I'm a managing editor here at Stratfor. With me today is Matt Bey. Today we are going to be talking about oil prices for our monthly Compass preview. So Matt, we all know that oil prices fell dramatically at the end of last year from more than $100 per barrel to less than 50, which was great for consumers like me, not so much for oil producers. Over the past six weeks, however, prices have begun to rebound a little bit. Why? Has demand changed dramatically?

Matthew Bey: Demand? Not so much. I mean we are coming out of peak demand season. A lot of places — like for instance Japan, India — they do use a lot of oil or oil products for heating and things like that. So as winter starts to subside, like it would for natural gas for example, some of these countries are going to be consuming quite a bit, little bit, less oil. But you know going forward, I mean, demand over the next six months, it's really not going to pick up that much. It's not going to be that big of a driver. A lot of refineries are going to be entering their maintenance period. A lot of consumers are going to be kind of slowing down their own consumption, at least for a period of time. But, you know, it will pick up eventually, just not yet.

Cole: So it usually picks up around summertime when people start to drive a bit more. Do you expect that to be the case this year, and will prices rise along with that?

Matthew: Yes, we will definitely see a little bit of an increase towards late summer because of, like you said, driving, but also one of the big reasons that there is a bump toward the end of summer is that Saudi Arabia likes to burn crude oil for water desalination and electricity, and obviously in Saudi Arabia August is a very hot month.

Cole: So it sounds like more than demand, as is tradition, the onus may fall to producers rather than consumers. Now, you mentioned Saudi Arabia, OPEC has decided that they are not going to drop their production levels at all so we have a lot of oversupply in the oil market. How will producers in North America alter their production levels?

Matthew: Well going back to OPEC, I mean OPEC will not voluntarily reduce supplies. But what we will see is for instance is like, and we saw over the last month, Libya, they have their own problems that sometimes takes oil offline. Iraq had their own problems with a little bit of their weather concerns that took a little bit of oil… some of that is going to be coming back online. But as you mentioned, the real strength is going to be coming from the U.S. producers that are going to be the ones that are starting to kind of, you know, dominate what is going to happen towards oil prices going forward. So one of the things that was actually a big contributor to oil prices kind of rebounding a bit, is that we started to see a lot of announcements starting towards the end of January and then throughout February of U.S. companies and also international companies scaling back their own capital expenditure budgets. That matters most in the U.S. because shale development is a kind of quick kind of thing where it comes on, you get a lot of you're revenue quickly, so its something that is much more responsive to price forces.

Cole: So will North American producers start producing less?

Matthew: That is a bit of an open question, and it's not as simple as they are you know going to be scaling back their capital expenditure budgets — the announcements are anywhere from 15 percent to 50 percent — but that doesn't necessarily mean they are going to actually be producing a lot less oil. One of the reasons for that is, over the last five years, the production rates per well, the efficiency per well, the time to drill a well, the time to complete a well, a lot of those factors are getting better, and they're simply getting more efficient at producing oil, and that's a trend that's going to continue. And as they shut down some of the rigs and they stop, or decline, to drill in some of these areas, they're going to start concentrating on the places where they actually get the most oil. So a lot of these companies, although they're saying hey we're going to cut back expenditures by about, you know, 30-40 percent, they're actually still expecting to have oil production increases for a few of them. Some of the other ones like EOG Resources, they're announcing that they're going to reduce some of their expenditures, they're going to drill some welsl, but they are going to delay completing the wells until prices start to rebound. So it’s a bit of a question of whether or not prices…. Or it’s a bit of a question of whether or not oil production will decline. What we're more likely to see is that, at least for the next few months, we'll start to see a little bit of a rise still before these capital expenditure budgeting and all those changes start to actually impact, you know, stuff on the ground. But towards the summer me might just see U.S. production start to stagnate and then that's also when we're going to see demand start to pick up again. So that could actually be quite positive.

Cole: Ok, so give us a prediction before we go. What…

Matt: [laughs]

Cole: Sorry. Do you expect prices to increase, to stay the same?

Matt: I think we are probably going to see prices stay in the range that is between roughly where a lot of shale production in the United States is not affordable and a lot of it where it is affordable. So that's going to be anywhere in between the mid-40s to the mid 70s. Now day to day trading is going to very much dependent on what's in the news.

Cole: Alright. Well we've got six months to look forward to it, but thanks very much for joining us. If you want to read this article or more, please visit us at Stratfor.com and check out Compass. Thanks for joining.

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