Low oil prices cure low oil prices… but markets got too excited before the medicine went down — Earlier in the year, expectations coalesced around there being a turning point in the oil market, with a focus of attention on both the demand and supply sides. But the rally was too early, and prices likely need to stay lower for longer, particularly in the face of structural change in oil markets that is still underway.
Shale has indeed lived up to its “swing producer” role, cutting rig counts significantly in response to the price drop. But for core GCC producers, the fight for market share with Iran’s return to market and surging Iraqi production, has supported production growth. This is exacerbated by the worry of peaking global oil demand in the not-too-distant future, and the scramble for market share in a cooling Chinese economy.
Given all of this, Citi is revising down its crude oil price outlook, with a base case (55% probability) of a double or triple W-shaped price path around $50 over 4Q’15-2016, with a bearish bias. In the bear case (30% probability), Brent falls to the high $30s over 4Q’15-1H’16 before ticking up. In the bull case (15%), Brent could recover to over $70 by end-2016.
That about sums it up though it is too bullish. The global oil surplus is still getting bigger, global growth is going nowhere and China is going to get worse not better. Shale will keep getting cheaper and although it will rationalise some more it will continue to be slow. Longer term LNG has its own reckoning ahead as its glut grows hugely over the next two years and the write downs on shiny new plants have not even begun.
A bear market rally in oil is going to arrive soon enough but I’d be adding to shorts when it comes rather than trying to catch the falling knife.
In the bigger picture, given MB sees a major accident coming to growth and shares in the next few years, LNG is going to get much cheaper yet, especially since incumbent management will try to hang on until then for their write downs, so as to bury their mistakes in the general “crisis”. When it does come LNG will be a better buy than miners.
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.
He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.
