Stagnant Growth inspite of Surge in Brent Crude Prices?

Brent Crude prices have rallied sharply since the OPEC meeting on November 30th when oil quotas were agreed upon. However, after an 18% rally the oil prices have stagnated. Does oil really have much more steam left?

Wait for the implementation… 

That is still some time away. The 1.2 million barrels OPEC supply cut is going to kick in from January 01st. Only then the real impact on the demand / supply gap will be seen. The surplus production is already down from 2.5 million bpd to 1.5 million bpd. Other factors remaining constant, this supply cut should bring it to near parity. But there are 2 questions. Firstly, whether the OPEC nations themselves adhere to quotas and who regulates the black market for oil? Secondly, what about non-OPEC majors like Russia and Mexico who may not be too keen to cut output if it starts to hit their macros?

Shale is hedging at $50-52… 

Even when the supply cuts were being debated, shale continued to be the big risk factor. The OPEC’s big fear is that if the supply cut leads to rise in oil prices then it may make many idle shale wells viable. That is apparently the case right now. With oil moving up from $46 to $54/bbl, there is already Brent Crude hedging demand from US shale companies in the $50-52 range. This implies 2 things. Firstly, shale supply is expected to flood markets shortly. Secondly, shale output is profitable at $52 and that is not good news for oil prices or for the OPEC.

Stockpiles are still at a high…

Just a week back, oil stockpiles in the US saw record build-up. At 8 billion barrels, the global stockpiles are at an all-time high. Interestingly, the world is running out of storage space for oil and this may find its way to the market sooner rather than later. That will also keep the pressure on prices. Also, oil storage does not come cheap. For example, floating storage (ships and tankers) costs around $1.13/bbl per month. That substantially limits your ability to hold on to commercial stockpiles for too long. This steep cost will also keep a lid on crude oil prices.

So, where is oil headed from here?

It is hard to point at a number, but the most aggressive estimates do not put Brent crude going much beyond $60/bbl. Sharp corrections may not happen with most extractors putting off capital expenditures for now. The oil market in 2016 is not as oversupplied as it was in 2015. On the higher side, the problem is that there is just too much of pent-up supply waiting in the sidelines. The OPEC deal is already fragile and the OPEC nations will hold the deal only as long as it does not bleed them. For now, oil prices surely seem to be capped!

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