Market analysis: resurgence awaited in oil price after turbulent year

Oil markets in the Middle East rounded off the most turbulent year since 2008 by hitting fresh multi-year lows during the final week of December, as prices plummeted towards the US$30 per barrel (b) range as oversupply fears continue to ravage the market.

Oman crude oil trading on the Dubai Mercantile Exchange in December closed out the year at $31.21, the lowest price recorded since the Dubai Mercantile Exchange’s (DME) flagship Oman contract was launched in 2007 and levels not seen for more than a decade on similar Middle East grades such as Dubai blend crude and Abu Dhabi’s Upper Zakum.

The monthly average price of the DME for February-delivery crude was $34.59/b, down $7.69/b from the previous month, or 18 per cent, as Opec’s decision in early December to maintain output added to the downward pressure.

On an annual basis, Oman crude during last year lost a record $45.74/b year-on-year, averaging $51.22/b in 2015 compared to $96.96/b in 2014 – which followed three record highs of prices averaging over $100/b. This was a fall of around 47 per cent but from peak, $111 in summer 2014, Middle East crude prices have collapsed by over 70 per cent from the highs.

Last year was dominated by reluctance of major producers to voluntarily give up on market share, leaving pure economics to find equilibrium in the market. The relatively high cost of shale oil meant that US production had been on the decline during the second half of last year, although it has proved more robust than some expected.

A proposal from Opec, which controls about 40 per cent of the world supply, to non-Opec producers such as Russia and Mexico to curtail production never found momentum among the non-Opec suppliers, bringing oversupply to between 1 and 2 million barrels per day.

On the demand side, prices tumbling by around 50 per cent in a year should in theory have provided a strong lift to buying patterns but against a background of sluggish global economic growth, plus consumers in high-tax environments not reaping the full benefit of much cheaper oil, demand was up by a relatively modest 1.8 million bpd in 2015, according to the International Energy Agency (IEA). But the IEA also predicts that global oil demand growth will slow to 1.2 million bpd this year.

The question now is at what point will the market rebalance and prices start to climb higher, with either production declining or demand rising. The expected increase in Iranian and Iraqi exports are likely to cancel out the further declines in US production, so Middle East suppliers will again be looking to China as a guide.

According to the latest survey by Bloomberg, which included leading forecasters FGE and Energy Aspects, China could buy 8 per cent more oil from overseas this year, taking average purchases to 7.2 million bpd. This comes despite the slowdown in Chinese economic growth, but with healthy consumer demand, government stockpiling and new rules allowing privately owned Chinese refiners to import more crude, oil demand should remain firm.

As for price recovery, the latest price survey from Reuters of 20 leading banks and analysts puts the European Brent crude benchmark at $52.52, which would give an implied Oman value of around $47.50/b based on the current Brent/Oman spread of $5/b.

During the first two days of trading this year, prices recovered marginally following renewed tensions between Saudi Arabia and Iran, but further turmoil in global financial markets largely overshadowed geopolitical events. March-loading Oman was trading just above $32/b late afternoon on Tuesday.

Paul Young is the head of energy products at the DME.

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