TED Magazine - February 2016

The world is so awash in oil that it’s increasingly being stored at sea. Because crude inventories have swollen beyond land-based storage capacity, traders are chartering supertankers. Already some 30 million barrels of capacity has been hired—adding approximately an extra $1 a month to storage expenses. And unusually warm weather has helped push commercial inventories worldwide to 500 million barrels more than what’s typical this time of year, according to PIRA Energy Group. Some 230 million barrels of new land storage capacity is expected to come online over the next 12 months, according to the International Energy Agency, but the glut could continue through 2017.

Oil everywhere
A confluence of forces—a kind of perfect storm—
looks likely to push prices lower still. by Ken Stier

All of this oil is having a predictable impact on prices—in the mid-$30s-per- barrel range by mid-December—which has spread pain across the oil patch.

Those surprised by the prices have plenty of company. Ten major banks, surveyed by the Wall Street Journal last spring, expected a barrel of oil would cost at least $50 in December 2015.

Futures contracts for that same month sold for approximately $64 a year ago; current futures contracts expect $45- per-barrel oil in December 2016.

This oil price rout comes from a confluence of forces—from an oilman’s perspective, a kind of perfect storm— that looks likely to push prices lower still and keep them there for longer than most earlier cycles. Key has been the collapse of demand, especially in China, the main engine for the past decade’s super-cycle commodities boom, but also among other developing economies where economic growth has been most pronounced in recent years.

On the supply side, the emergence of the United States as a significant oil producer due to shale technology is another key factor. Oil production doubled in the past decade to a daily average of 9. 6 million barrels—and will probably soon resume crude exports.

The other major factor is a divided OPEC, with the pivotal swing producer, Saudi Arabia, pursuing a market share strategy; other major producers have been compelled to follow suit or lose market share. Unrestricted production is a significant departure for OPEC, which was established in 1973 with the purpose of coordinating constrained production (through quotas) as a means of price support.

OPEC’s ceilings were abandoned by the dominant members of OPEC (Saudi Arabia and the Gulf states) so that they could pump flat out to defend their market share against new oil-producing countries drawn in by high prices. Depressed prices hurt the higher-cost producers more than they do the Saudis and their Gulf state neighbors and will eventually force them out as they continue to lose money.