The Energy Information Administration released its Short-Term Energy Outlook for January, and it shows that OECD oil inventories likely bottomed last June 2018 at 2.800 billion barrels. It estimated stocks dipped 1 million barrels in December at 2.914 billion, 54 million barrels higher than a year ago.
For 2020, OECD inventories are projected to build by 47 million barrels to 2.962 billion. This is EIA’s first projection for 2021, and it forecasts that stocks will draw by 17 million barrels to end the year at 2.945 billion.
The EIA estimated that OPEC production dipped by 250,000 b/d in December to 29.24 million. For 2020, it estimates that OPEC production will average about 29.19 million, about 600,000 b/d lower than in 2019. For 2021, it estimates OPEC production will remain about the same.
Oil Price Implications
I updated my linear regression between OECD oil inventories and WTI crude oil prices for the period 2010 through 2019. As expected, there are periods where the price deviates greatly from the regression model. But overall, the model provides a reasonably high r-square result of 79 percent.
I used the model to assess WTI oil prices for the EIA forecast period through 2020 and 2021 and compared the regression equation forecast to actual NYMEX futures prices as of January 14th. The result is that oil futures prices are presently overvalued for almost all of the forecast horizon except for the next two months. In the latter parts of 2020 and 2021, it shows the valuations dropping down to where NYMEX WTI futures prices are below $50/b.
The 4Q18 proved that oil prices can move dramatically based on expectations and that they can drop far below the model’s valuations. The attack on Aramco’s oil facilities also proved they can rise above the model-derived price, as did the days following the killing of the Iranian general.
A major uncertainty is whether hostilities will break out between the U.S. and Iran, or whether a new nuclear deal can be reached in 2020. The upcoming U.S. presidential election favors a new deal since one of Trump’s signature positions is that he could improve upon the Obama-era deal. And a new deal would involve lifting the sanctions, which would release 1.7 million barrels per day on the world market, enough to sink gasoline prices in time for the election. Also, Trump would be loath to get the U.S. involved in another Middle East war, since he criticized past presidents for doing so.
The EIA’s forecast shows U.S. production rising to 13.5 million barrels per day by end-2020 and 14.1 million by end-2021. Total Non-OPEC production is projected to increase by 2.6 million barrels per day in 2020. One uncertainty is whether this forecast will be met or if additional gains can be made. Also, it is questionable whether the OPEC+ group can hang together throughout 2020, since some producers seem uncommitted, such as Iraq and Russia.
Another key uncertainty playing out is the trade war with China. A phase one deal is reportedly going to be signed on January 15th, but the U.S. is going to maintain sanctions on $360 billion of Chinese imports through the presidential election; it was reported. And so it remains to be seen whether trade picks up between China and the U.S.
Finally, Venezuela remains a key uncertainty. PDVSA reportedly budgeted for a 650,000 b/d increase in 2020. It had been reported that Rosneft will assist PDVSA to increase production. Output in Venezuela appears to have stabilized the past three months.
Based purely on the model, oil prices are overvalued compared to futures prices beyond March. Key to the near-term will be exactly how much OPEC+ producers reduce output, if at all, and how strong or weak global demand is. The OPEC+ promises had a somewhat limited effect on market sentiment.
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INO.com Contributor - Energies
Disclosure: This contributor does not own any stocks mentioned in this article. This article is the opinion of the contributor themselves. The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. This contributor is not receiving compensation (other than from INO.com) for their opinion.