Oil Market Forecast

This July edition of our Oil Market Forecast comes shortly after Sunday’s OPEC+ agreement to return oil to market as demand continues to recover. Despite rising prices, there is still no evidence of a rebound in US shale activity, with rising demand coupled with a lack of investment in supply setting up an ever tightening oil market through the forecast period.

A few key points:

The IEA (1) reported oil demand jumping by 3.2 MMbbl/day in June to 96.8 MMbbl/day, evidence in support of the predicted surge in oil demand in the second half of the year. Bloomberg reported that US gasoline demand set a record on the week ending July 2nd (2), but the OPEC view is that this rebound in oil demand in the OECD is temporary (3). Estimates of crude oil demand through 2022 have held steady for the last couple of months, despite the prospect of a resurgence in COVID-19 cases. The IEA and OPEC (4) have average 2022 oil demand falling just short of the 2019 oil demand, while the EIA (5) shows slightly higher average demand in 2022 than in 2019.

The IEA reported global crude oil supply rising from to 95.6 MMbbl/day in June, driven mainly by increased OPEC supply. We expect supply rise by 600,000 bbl/day in July as OPEC continues to unwind its supply curbs. This month saw some evidence of diverging views at OPEC, when the United Arab Emirates (UAE), blocked a supply increase scheduled for August. The UAE has invested in its own production capacity and wanted this recognized in their OPEC baseline production level.

This disagreement was resolved at the 19th OPEC and Non-OPEC Ministerial Meeting, held on Sunday 18th of July, with agreement a revised a schedule of production increases and quota baselines. This agreement has two components. The first is a monthly production increase of 0.4 MMbbl/day, starting in August and running through May 2022. The second is an increase in OPEC production baseline for some of the larger producers – Saudi Arabia, Russia, Iraq, Kuwait, and the UAE – totaling 1.632 MMbbl/day. While an agreement is welcome, this relaxation of production is slower than expected, meaning that the oil market outlook is tighter than we had anticipated in last month’s forecast.

There has been slow progress on an Iranian nuclear deal; no progress is expected while the new government assumes power and there are some significant gaps to close after that. It now looks unlikely that there will be a big jump in Iranian supply this year. Nigeria has finally passed its Petroleum Industry Bill (PIB), which should reduce regulatory uncertainty and help some of the projects on the drawing board move forward. Given cycle times, however, any production increase from Nigeria will be several years down the road.

Following the extension of OPEC supply curbs, we see an oil market in deficit throughout the forecast period. Our supply and demand forecast is shown in Figure 1.

Figure 1 - Supply and Demand Surplus Forecast

We estimate global oil inventory drawdowns of 83 million barrels in the first half of 2021, rising to 350 million barrels in the second half of the year as demand recovers.

Figure 2 shows global storage capacity and inventories. If supply and demand continue to evolve as currently forecast, global inventories should return to long term average around the end of this year. In previous out previous forecasts, the market was predicted to be roughly in balance for 2022. The latest agreement from OPEC+, which pushes supply curbs in to 2022, has changed this dynamic and we now see draws continuing in 2022 and accelerating through 2023 and 2024.

Figure 2 - Global Storage Chart

The EIA made a significant revision to prices for 2021 and 2022 in its latest Short Term Energy Outlook (STEO); they now predict Brent Crude averaging over $66 per barrel in 2022. Spot prices continued to recover with Brent crude breaking through the $75 per barrel mark on a couple of occasions this month. The recovery in prices has prompted the Biden administration to open discussions on supply with OPEC as “The president wants Americans to have access to affordable and reliable energy, including at the pump.” (6). It seems strange that a US President, who has made so much of his intent to shutter the US oil industry, should be actively pursuing an increase in foreign oil supply; after all the US shale boom of the last decade demonstrated that the US is very good at supplying affordable energy. Sunday’s OPEC+ agreement does appear to have had the desired effect, with WTI spot prices down 6% at the time of writing.

While oil prices have been rising, there is no evidence as yet that they will hamper the world’s economic recovery. Earlier this month, Morgan Stanley published an estimate that prices could rise to $85/bbl for the oil burden, the cost of oil as a percentage of gross domestic product, to rise above the long term average (7). Based on this analysis, it looks as if prices may have some more room to run.

Both Brent and WTI futures are showing near term increases, but longer term declines when comparing July to June. The rate of increase in the near term has also slowed significantly. The shape of these curves describes a near term shortage of oil and a longer term surplus, which represents the opposite of our outlook. At present there is a large surplus of oil production capacity; the only reason that stocks are falling is that OPEC are restraining production, a situation that can be reversed in the course of a single meeting. The longer term picture is one of a shortfall in production capacity due to an absence of investment and steadily rising demand. A futures market consistent with our outlook would have low near term prices, rising as we move through the rest of the decade. For the world outlined in the current futures market to become a reality, there would have to be either a surge in US shale production, or a sustained decline in oil demand, neither of which outcomes currently seem likely.

Figure 3 - Brent Crude Oil Futures

Figure 4 - WTI Crude Oil Futures

The US land oil rig count continued to climb in July, rising from 352 on the 11th of June to 362 on the 16th of July, but if anything, the rate of increase has slowed rather than accelerated. This comes despite the recovery in oil prices and recent reports that the financial markets are beginning to reopen to oil & gas companies again.

Figure 5 - US Land Oil Rig Count

(1) Oil Market Report – July 2021, International Energy Agency
(2) “USA Gasoline Demand Hits Record High”, Jeffrey Blair and Mike Jeffers, Bloomberg, July 8th, 2021
(3) “Oil Prices Surge as OPEC Weighs Rising Demand in Rich Countries”, Benoit Faucon, Collin Eaton and Summer Said, Wall Street Journal, July 1st, 2021
(4) “OPEC Monthly Oil Market Report”, Organization of the Petroleum Exporting Countries, July 15th, 2021.
(5) Short Term Energy Outlook (STEO), July 7th 2021, U.S. Energy Information Administration.
(6) “Biden’s team works the OPEC phones to secure “reliable energy” from non-U.S. producers”, Jordan Fabian and Josh Wingrove, World Oil, July 7th, 2021
(7) “Why Rising Oil Prices Are Unlikely to Kill the Economic Recovery”, David Harrison, Georgi Kantchev and Paul Hannon, Wall Street Journal, July 8th, 2021.