The President of OPEC and the CEO of Royal Dutch Shell are in agreement; oil prices will go up. They would say that, wouldn’t they? (Thank you Mandy for your contribution to what is supposed to be a serious post.)
But I think they are right. The reason behind the fall in oil prices over the past year was only in part the slowdown in economic growth around the world and especially in China. A more important factor was Saudi Arabia’s desire to see lower prices. They could have kept prices above $100 by reining in their production; just 150,000 b/d would have done the trick. They wanted prices to fall because it ticked so many boxes. It would hurt Iran, it would hurt Russia and therefore please the American government, and it would put a stop to high-cost production by non-OPEC producers. Deep-water drilling in places like the Arctic is expensive, as is fracking. These projects, once embarked upon, don’t suddenly stop but investment in new projects has been choked. Next year domestic production in the US will fall. Meanwhile, economic growth continues, albeit at a more modest rate than forecast only a year or so ago. Oil prices have stabilised around the $50 mark for Brent over the past few months and the stage is set for a recovery.
The market is tightening and the speed and extent of a recovery in prices will be dictated by any reduction in output by Saudi Arabia, and stock-building by, say, China or any geopolitical event that reduces supply.
Timing is notoriously difficult to predict and there may be a geopolitical trigger that could hasten this rally but, lacking that, the rally will come anyway. I guess that in the second quarter of 2016 Brent will be trading above $75. Last Friday Brent for delivery in June 2016 was trading below $57.
This will be good for shareholders in oil companies and also will flow through into higher vegetable oil prices. Weak mineral oil prices have adversely affected palm oil prices, for instance, this year. It may also help the UK government by making their decision to invest in nuclear power seem less expensive and increasing their take from Petroleum Revenue Tax. Not so good for householders with oil central heating and cars that drink petrol.