Not really, if the Organisation of Petroleum Exporting Countries (Opec) and Russia continue to increase production without agreeing on a freeze, the market will remain unbalanced. One of the key risks is higher production in Nigeria and Libya. Cyclical production from drilled but uncompleted wells in the US is also likely to add to supply. If China were to reduce its demand for strategic petroleum reserves, which is likely because of storage constraints, then we have reduced demand for crude as well. Nevertheless, we see the market balancing by the end of 2017 or early 2018. Capital expenditure cuts over the last two years should tighten supply growth.
If there is an agreement over a freeze between Opec members and Russia, there is a chance of oil rising rapidly in the coming months. Drawdowns could occur as early as the end of this year.
What about US shale oil? At what price does it become competitive?
Technological advancements, efficiency gains and cost cutting have helped shale oil producers in the US to break even at lower costs. A flat price close to $50 a barrel (West Texas Intermediate crude) and a 12-month price at $60 is perhaps the best scenario for most US oil producers. If oil were to rise rapidly, we could see higher US supply arriving with a lag of six months. Despite that, we expect the market to be tight by early 2018.
Opec seems set to freeze output. Has the market priced this in?
A small amount has been priced in. But there still are doubts on whether Opec and Russia will reach an agreement as Iran remains the point of contention. If Opec were to freeze output, we could see oil prices reach $60 by the end of the year and $70 by the end of 2017.
Do you see the currencies of oil producing countries stabilising?
Their finances stabilised due to the rally in oil prices earlier this year and because of austere budgets announced by most petro-states. We have noticed currency devaluation in Russia, Nigeria and Algeria in the last two years. The rouble has strengthened recently, which is causing concern for Russia. The Algerian dinar stabilised in early 2016 and the Nigerian naira depreciated after it was floated in June 2016. Most of the other petro-state currencies are pegged to the dollar.
What are your price forecasts?
In the absence of an OPEC freeze, we do not see sustainable and meaningful drawdowns in 2017, and hence in our central scenario we see oil prices remaining below $50 for the rest of 2016. We should see the impact of lower oil prices on non-OPEC cyclical supplies towards the end of the year and oil prices recovering towards $58. Investors are likely to increase their long positions by the second quarter of 2017.