Fundamentally, we will not see a significant rise in oil prices until we got a correction in the supply/demand ratio.
The latest data from the Energy Information Administration (EIA) shows that OPEC is now winning the market share war as US production is beginning to see significant declines. In April, US shale production peaked at 9.7 million barrels per day & has now fallen to 9.18 mb/day, a drop of over 500kb/day in less than 6 months.
While that is significant, we can see on the following chart that US production is still at the levels exceeding the 1985 high.
Oil rig counts are continuing to fall dramatically, with last weeks Baker’s Hughes Rig Count down 4 rigs to 572. This is a dramatic drop off from the peak of about 1600 a year ago. As the price of oil increased to over $100 per barrel, producers ramped up production, wanting to cash in on these great prices.
As production increased, so to did the supply. Historically, OPEC would cut back on production to maintain a profitable price for oil, but not this time. This time it was the US producers who were pushing up the inventory & driving prices down, so the Saudis decided it was time for these US shale producers to feel some pain. Over the past year, we have seen an all-out game of chicken, where all producers kept pumping out record levels of oil.
But now the US shale producers have cut back on their new drilling, meaning supply levels should start to decline.
Many companies are projecting capital spending will be 30%-40% lower in 2016. We are reading lots of analysts who are calling this the bottom for oil prices… we beg to differ.
Technically, we are still looking for a drop below $40, & likely a drop to $32. Fundamentally, although US producers are cutting back on exploration, OPEC countries continue to keep the spigot wide open.
Countries like Iraq, Nigeria & Libya are planning to add more production by the end of 2015. And let’s not forget that if Iran is allowed to ship crude when sanctions are removed, this will further depress prices.
So while we are definitely getting closer to a bottom in oil prices, we have a bit of time before that happens. Certainly, there are growing tensions & threats of war,, which would cause oil to spike if these tensions take a turn for the worst.
Also, while US production has been declining, that decline has been slowing. There are still too many speculating that oil will shoot right back to $100. We need to see more pain in this industry & more companies fail, to really get the production down.
The only cure for low prices in oil is low prices. Further cuts & shutdowns are needed before we will see prices rise in earnest. Oil recently broke down out of its triangle wedge pattern… a bearish sign. For now the trend is down, & we never argue with the trend.
We are long the US dollar & with the US dollar breakout combined with excess production by OPEC & US production declines slowing, we remain bearish for oil at this time. As noted previously, our projection is for the final leg down to see oil prices to the low $30’s, likely before year-end.
If we get a steep decline soon, we may send out some BUY alerts as tax-loss selling may offer some nice bargains.