Light at the end of the tunnel
ICE Brent contracts rose to over US$40/bbl in March, setting a 2016 high. Despite ominous economic signals from China, and crude exports dropped by a quarter in February, supply forecasts have supported global crude benchmarks this month.
Representing a pivot point from the supply rise odyssey, leading shale producers have told the markets they predict a decline in output – albeit a smaller one than anticipated. Although the resilience of US shale producers has been strong, which is a tribute to technical expertise, it was inevitable that the price drop would suppress output sooner or later.
Hope for crude bulls has increased further as OPEC is unlikely to slash production in the near future. It appears the cartel is waiting to gauge the strength of Russia’s commitment to freeze production levels, following its announcement in February, and how much oil Iran is planning to pump onto the market.
Australia’s Gorgon has been the most expensive LNG project in history. Drawing parallels to its Greek mythological namesake 'Gorgon', the project has suffered significant cost overruns and delays. It has cost US$54 billion to develop the 15.6 mmtpa LNG liquefaction train. News that its first LNG cargoes are reportedly being shipped within the month represents a key milestone, not only for the project but also for Australia, which has more than US$180 billion worth of LNG export projects coming online between now and 2020. It has been anticipated than additional 50 mmtpa will be online before 2018.
"News of Australian LNG cargoes finally market-bound is an important turning point for Australia. In recent years Australia’s midstream and downstream energy businesses have been squeezed by fierce regional competition, emboldening claims that Australia’s energy sector has reached its twilight. Yet, some light is at the end of the tunnel with these LNG cargoes. Although market conditions are not optimal, Gorgon LNG represents an opportunity for Australia to reclaim its place in the global energy market and act as a support for a relatively weak Australian Dollar."
– Oliver Hsieh , Associate Director, Commodity & Energy Risk Management for ASEAN, KPMG in Singapore
Brent forecasts have fallen since last month across the forecast period. Analysts maintain their prediction of a supply overhang through 2016 before the market balances in 2017, and a medium-term recovery in prices as capex cuts and low spare capacity support Brent. The inventory overhang, new supply from Iran and possible demand weakness in Emerging Markets are seen as key risks.
Henry Hub forecasts have seen little movement since last month. The market continues to be oversupplied, and this is expected to continue in the near term. Record inventory levels will be an overhang on natural gas prices through 2016, with a growing storage surplus outweighing slowing supply growth and improved gas demand.
India registered nearly 19% year-on-year growth for naphtha demand in 2015, and the pace of naphtha consumption is projected to remain strong. Under Modi’s pro-industrialist government, India’s aspirations to become a major industrial and manufacturing hub will boost naphtha consumption, thus limiting exports. Indeed, Naphtha exports fell by 5% in 2015.
India’s ethylene cracking capacity is projected to rise from 4.5 mpta in 2015 to over 7 mpta by 2018, with major expansions by MRPL, Brahmaputra Cracker, Reliance, OPAL, and IOC. In addition, demand for naphtha as gasoline blend-stock remains strong with surging car population as more of the lower class migrates to the middle class. Naphtha is also used for fertilizer production in India through Government cross-subsidies.
"India is the key exporter of naphtha exports in the Asian region, with the rest of the Big four (Japan, China, Korea) being large importers. India’s ambition to become a major manufacturing and industrial hub, and upcoming petrochemical expansions, will substantially affect naphtha exports from India. Moreover, the North East Asian region will have to source alternative sources to meet its naphtha deficits, presumably with higher imports from the Middle East, and even long-haul imports from the Americas."
March has witnessed a significant increase in oil prices (almost 50% from the low point of US$28/bbl in January this year) caused by, amongst other factors, attempts by Russia and Saudi Arabia to lead a freeze in production. The long-term effect of this increase is still unknown, leading to a wide range of pricing estimates. On the one hand, the EIA is now making reference to the market rebalancing faster than originally expected. On the other hand, the continued slowing of economic growth in China and in developed economies, coupled to the re-entry of Iran to the market – a country so far unwilling to restrict its output –indicates further potential delay for all oil prices recovery.
"Based on the current market dynamics it is likely that the prices will be relatively stable at current levels around US$40 a barrel. At this stage it would be a surprise for prices to plummet to the US$20 or even below levels that some market commentators have referenced. At the same time we do not expect the prices to raise significantly in the short term."
– Lyuda Sokolova, Director Corporate Finance, KPMG in the UK
Lacklustre global demand for petroleum products and a historically mild winter have created an oil inventory glut in the U.S.
U.S. commercial stocks of crude oil are at record high levels and total 75% of the volume stored in the Strategic Petroleum Reserve. Media reports have traders experimenting with storing crude in rail cars as storage facilities are near maximum capacity. Exacerbating the oil industry’s woes was the warmest winter ever recorded in 121 years in the U.S. Due to reduced demand, heating fuel inventories remain very high, especially distillates. Natural gas inventories are declining in a typical seasonal pattern, but remain above their historical range creating concerns about excess stocks following the normal summer inventory refill.
"The cycle time for the current oil price correction is persisting longer than usual due to a slower supply response and depressed global demand for refined products. Current high stock levels should hinder any significant price advances for crude and refined products in the coming months until the supply surplus is eliminated."
– Thomas Ruck, Director, Market/Treasury Risk, KPMG in the US