January 2, 2016    4 minute read

Oil: Stay Short

   January 2, 2016    4 minute read

Oil: Stay Short

Few things are certain in the commodity markets, particularly oil. The only thing that can be guaranteed is uncertainty itself. Volatility has and will always plague this market but when stock is taken of the fundamental issues that push and pull the price of oil investors, shrewd consumers can act more decisively and capitalise on these fluctuations. This is a follow up article on an earlier piece, entitled ‘Oil: A Deep Dark Hole’.

Earlier in 2015, one could easily have swam against the tide, whilst acknowledging the likelihood of a short term uptick in oil prices, there were foundations in place that set in stone a fall in oil prices in the medium term. This forecast has subsequently come to fruition with oil prices plummeting towards doomsday figures. Steadily falling demand met skyrocketing supply as US shale fueled a cheap energy boom in the US. This coupled with a strengthening dollar and the global economic slowdown sent the price tumbling.

However, perhaps most critically Saudi Arabia, the largest member of OPEC refused to cut production which put the nail in the coffin of the crude oil price. It guaranteed oversupply in an attempt to outlast smaller, heavily-indebted US oil producers and drive them out of the market. With this dramatic and rapid fall in oil prices, the price of crude has taken central position on the economic stage as governments and individuals try to plan their consumption in accordance with forecasts. However, the jury is still out on whether the slump will be long term or not.

It seems to many investors and analysts that the problems of OPEC cannot persist much longer and the fundamental changes made my big players in the industry improve its position and the likelihood of a rebound when supply is eventually cut. There is a case to be made for a positive outlook for oil. In the winter period, the price of oil has rebounded ever so slightly after a number of turbulent days trading. This comes alongside many structural changes made by firms with in the industry which improve the outlook. OPEC have claimed on the back of this that they expect oil prices to rise to near $70 a barrel by 2020 which one must of course take with a pinch of salt.

My view falls in line with that of Professor Paul Stevens of the Royal Institute for international Affairs who points to “the huge amount of physical oil above the ground” as a clear indicator of the oversupply that will be seen in much of 2016 keeping prices low. Alongside this the insolvency rate in the US will no doubt be in the mind of Saudi Arabia as they look to extend their policy over the slightly longer term in order to maintain their grip on the market. The Energy Information Administration now predicts that companies operating in U.S. shale formations will cut production by a record 570,000 barrels a day which is music to the ears of Saudi policy makers.

Thus, whilst there is an end is in sight for plummeting oil prices, aggressively shorting oil is still viable as the time to call the bottom on oil is likely well into 2016. It is also key for observers to bare in mind that the technological revolution has changed the game in oil. It is easier to find oil, utilise it and bring it to market whilst simultaneously each year businesses and consumers have become more efficient at using it. In summary, $60 is likely the new $100 for oil in a market which has long departed the previous norms and so whilst shrewd Saudi policy making seems to be working currently, OPEC’s forecast demand upsurge may never come.

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