Analys

Market likely to rewrite all Brent crude forecasts for 2018

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6 år sedan

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7 november, 2017

Exactly two weeks ago we argued that Brent crude would probably reach $65/b before Christmas. And wow has that delivered quicker than we thought. Of course yesterday’s 3.5% jump to $54.27/b (intraday high of $54.44/b) did come on the back of the political events in Saudi Arabia. Princes, billionaires and ministers were arrested and accused of corruption while the real reason of course was to secure the way to the throne for Prince Mohammed Bin Salman (MBS). In our view the events in Saudi Arabia this weekend were merely a catalyst which drove the oil price higher and more quickly than expected. In general we see little reason to be concerned for the supply of Saudi Arabia’s production. That was probably also the main view by European traders yesterday as Brent crude traded only marginally up in the European season (aligned with some positive moves in metals) before US traders came into the market and kicked it higher.

What is really at the heart of why we think everyone now will revise their Brent crude forecasts for 2018 is the realisation that the Brent crude 1 month contract, the Brent “spot price”, is not really what the US shale oil players are getting for their crude oil. Whatever unhedged oil the US shale oil players currently are producing they will only get $57.3/b or the WTI 1 month price. And they won’t even get that as there is a transportation cost from the well-head to Cushing Oklahoma as a discount to that as well.

More importantly is what’s dictating shale oil players’ profitability for new investments, new drilling and additional wells. That is not the front month WTI price but the 1.5 year forward WTI price (the WTI 18 month contract) at which they can hedge new investments. And that price yesterday closed at only $53.3/bl. I.e. for new investments US shale oil players are only offered $53.3/bl for delivery at Cushing Oklahoma which is far away from the current Brent 1mth price of $64/b.

The WTI 18 mth contract traded as high as $57.4/b earlier in the year. So while the Brent 1mth price is rising to new highs of the year and highest since 2015, the WTI 18mth contract is still 3 dollar lower than its high this year and not at all giving a strong stimulating investment push for shale oil producers.

This is clearly a dream come true for OPEC. That they can have a high Brent 1mth price close to $65/b while at the same time not giving a strong price stimulus to US shale oil producers as they are only offered $53.3/bl on the curve. Yes, Christmas did indeed come early for OPEC this year! Then of course the question is whether Christmas will last all of 2018 or not. So what is at the heart of this Christmas present?

It is two-fold.

One is the increasing Brent crude oil backwardation with the Brent 1mth contract trading at a $5.1/bl premium to the the Brent 18mth contract. This comes partly as a result of the constant draw down in global crude oil inventories and partly due to the increasing net long Brent speculative positioning. And yes there is a relationship between backwardation and speculative length. When net length is increasing the backwardation is increasing.

At the moment net long Brent is at an all-time high. That will of course not last for ever. So in the next market turn when specs pull out the level of backwardation will soften somewhat as well. However, assume that OPEC+ will “hold” the market all through 2018 so that inventories continue yet lower. Not necessarily steeply lower but at least ticking lower. Then the Brent crude oil backwardation should not fall back to zero. Rather it should hold up at some level and then strengthen with declining stocks. In perspective the Brent 1 to 18 mth backwardation time spread traded around $7/b from mid-2011 to mid-2014 when Brent crude traded around $110/b. So the $5/b backwardation may be a bit rich as we are not quite back to a 2011-2014 situation quite yet.

The second and more important one is the increasing Brent to WTI spread we have witnessed this year. And it is not just in the front of the curves where the spread has widened out. It has happened all along the curve. In January the Brent 18mth to WTI 18 mth spread only traded at $1/b while it now trades at close to $6/bl.

When we look at global oil inventories they have been drawing down relentlessly since mid-March this year. In the US we have seen that oil product stocks have drawn down to normal with middle distillate stocks there down to below now ahead of winter. US crude stocks have however been a much more tedious and slow draw down as they in total still stand more than 100 mbl above a fair normal. However, if we split out the US mid-Continent which contains Cushing Oklahoma stocks where the WTI crude is priced we see that non-mid-Continent US crude stocks have been drawn down rapidly. The mid-Continent stocks however are actually now higher than a year ago and rising. And since this is where the WTI crude is priced it is holding down the WTI price.

The WTI crude curve is actually still in contango at the front end of the curve due to this. And since stocks in the mid-Continent are rising higher there is an increasing risk that the WTI crude price might break down into deeper front end contango and an even wider Brent to WTI spread and thus a lower WTI 1mth price.

We are thus likely going to witness a yet widening divergence between Brent and WTI crude oil price. Especially in the front. That is also why the net long speculative positions in WTI is not at an all-time-high as is the case with Brent positions. And those with a long position in WTI are at risk for a break-down in the WTI prices as the mid-Continent stocks continues to rise.

A key question for us at the moment (which we are unable to answer) is whether the rising crude stocks in the US mid-Continent now is due to natural bottlenecks due to lack of pipeline investments or whether it is due to damaged infrastructure following the Hurricane Harvey.

If it is the first then the bottleneck is probably of a lasting character. Then US shale producers have probably reached the short/medium term transportation capacity of getting their oil to the market. It will of course not last for ever as there is always possible to lay more pipes, but it takes time. In that case the Brent crude oil price can continue to rally without having to worry too much because the WTI price which then is stuck in surplus in the mid-US Continent. Then there is no point for US shale oil producers to increase production as they cannot easily get it to market. And the subdued WTI price will be the one telling them not to invest more and not to produce more since it will be low due to high mid-Continent stocks.

If the rising mid-Continental stocks are due to Hurricane Harvey damages then it might be quicker to mend. Then the Brent to WTI spread should contract from current levels once the Harvey damage is mended.

Looking at the US mid-Continent stocks we see that they started to rise at the end of August which was right at the time of Hurricane Harvey and has gone up by some 10 mbl since then. However, this might not be a good indication that Harvey is the culprit as inventories normally rise some 4 mbl during this period anyhow.

We are not quite sure whether it is Hurricane Harvey damage which drives US mid-Continental stocks higher or whether it is structural under investments in pipelines. However, as US shale oil production continues to rise (as we think it will in 2018) the pressure in terms of utilization of US oil pipeline transportation capacities will be increasingly taxed which is likely to hold the Brent – WTI price spread high.

So Brent crude oil price forecasts for 2018 are likely going to be revised up across the board as they now are likely to incorporate a more substantial Brent – WTI 1mth price spread for 2018. Current Brent crude 2018 Bloomberg consensus forecast currently stand at $56/bl with market pricing at $62/bl while SEB’s standing forecast from September is $55/bl.

The fundamental assumption for most forecasting methodologies is still that US shale oil is on the margin. For a long time the assumption has been that US shale oil can deliver almost unlimited at WTI $50/b. That assumption is now breaking down. US shale oil producers have not made money this year with investors now DEMANDING that they deliver profits and not just promises. While it is difficult to say exactly at what level they will create profits it is natural to shift the shale oil base floor price assumption from $50/bl to $55/bl. I.e. assuming that US shale oil production is not going through the roof with a WTI 18 mth price at $55/b. I.e. the WTI price is allowed to trade at $55/bl both in spot and on the curve without creating surplus havoc in the global market.

We thus expect revisions of Brent crude oil forecasts to assume a WTI 1mth crude price delivered at around $55/bl next year and then with a Brent 1mth to WTI 1mth price spread to Brent on top of some $5-7/bl thus placing Brent forecasts for 2018 at around $60-62/bl. Such assumptions are likely to affect our own Brent crude oil forecast for 2018 when we revise it in February next year.

Ch1) US commercial crude oil stocks less the US mid-continent are drawing down rapidly
Getting close to normal by end of year

Ch2) US mid-Continent stocks (Pad2) have however rising and above last year.
This is where WTI crude is priced in Cushing Oklahoma and is why the WTI crude curve has front end contango with risk for deeper contango

Ch3) US shale oil regions

Ch4) Not all shale oil producers need to pass through Cushing Oklahoma
But the exact magnitude and location of bottlenecks getting shale oil to the U.S. Gulf we don’t know.
Looks like Eagle Ford and Permian have more options to bypass Cushing getting right to the US Gulf.
Are Eagle Ford and Permian producers actually getting a price closer to seaborne crude prices than to WTI?

Ch5) Brent and WTI crude curves moving higher over last two weeks

Ch6) Brent 1mth contract has rallied to close to $65/b.
Steepening Brent backwardation and widening Brent – WTI crude spreads has left the WTI 18 mth contract in the doldrums no higher than $53.3/b

Ch7) The WTI 18 mth forward price at $53.3/b still short of year high of $57.4/b

Ch8) Brent 1mth to WTI 1mth crude spread has blown out

Ch9) And US crude oil is flushing out of the US as exports as a result of the strong widening in Brent to WTI
But as we see above it is not flowing out of the US mid-Continent where WTI is priced

Ch10) US shale oil players are kicking drilling rigs out of the US at a WTI 18mth curve price of $50/bl
They can of course drill more but then they are begging a higher forward WTI price.
Risk for a smoke and mirror in these statistics as shale players are currently running some 100 drilling rigs more than they need.
They need to kick they out in order to align drilling with completions which still ran at a surplus in September as they drilled more than they completed.
We expect shale players to kick out 5-10 rigs every week to Christmas.
It will be sentiment bullish, but unlikely to impact completions all that much in 2018 as they have a load full of DUCs they can complete in 2018

Ch11) US shale players kicking out rigs at a WTI18 curve price of $50/bl

Ch12) Will shale players hold their horses as the mid-term WTI forward price moves higher?
Good reasons to believe that they will kick out more drilling rigs at WTI curve $50/b as investors demand profits

Kind regards

Bjarne Schieldrop
Chief analyst, Commodities
SEB Markets
Merchant Banking

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Analys

’wait and see’ mode

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1 dag sedan

den

25 april, 2024

Redaktionen

So far this week, Brent Crude prices have strengthened by USD 1.3 per barrel since Monday’s opening. While macroeconomic concerns persist, they have somewhat abated, resulting in muted price reactions. Fundamentals predominantly influence global oil price developments at present. This week, we’ve observed highs of USD 89 per barrel yesterday morning and lows of USD 85.7 per barrel on Monday morning. Currently, Brent Crude is trading at a stable USD 88.3 per barrel, maintaining this level for the past 24 hours.

Ole R. Hvalbye, Analyst Commodities, SEB

Additionally, there has been no significant price reaction to Crude following yesterday’s US inventory report (see page 11 attached):

US commercial crude inventories (excluding SPR) decreased by 6.4 million barrels from the previous week, standing at 453.6 million barrels, roughly 3% below the five-year average for this time of year.
Total motor gasoline inventories decreased by 0.6 million barrels, approximately 4% below the five-year average.
Distillate (diesel) inventories increased by 1.6 million barrels but remain weak historically, about 7% below the five-year average.
Total commercial petroleum inventories (crude + products) decreased by 3.8 million barrels last week.

Regarding petroleum products, the overall build/withdrawal aligns with seasonal patterns, theoretically exerting limited effect on prices. However, the significant draw in commercial crude inventories counters the seasonality, surpassing market expectations and API figures released on Tuesday, indicating a draw of 3.2 million barrels (compared to Bloomberg consensus of +1.3 million). API numbers for products were more in line with the US DOE.

Against this backdrop, yesterday’s inventory report is bullish, theoretically exerting upward pressure on crude prices.

Yet, the current stability in prices may be attributed to reduced geopolitical risks, balanced against demand concerns. Markets are adopting a wait-and-see approach ahead of Q1 US GDP (today at 14:30) and the Fed’s preferred inflation measure, “core PCE prices” (tomorrow at 14:30). A stronger print could potentially dampen crude prices as market participants worry over the demand outlook.

Geopolitical “risk premiums” have decreased from last week, although concerns persist, highlighted by Ukraine’s strikes on two Russian oil depots in western Russia and Houthis’ claims of targeting shipping off the Yemeni coast yesterday.

With a relatively calmer geopolitical landscape, the market carefully evaluates data and fundamentals. While the supply picture appears clear, demand remains the predominant uncertainty that the market attempts to decode.

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Analys

Also OPEC+ wants to get compensation for inflation

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3 dagar sedan

den

23 april, 2024

Redaktionen

Brent crude has fallen USD 3/b since the peak of Iran-Israel concerns last week. Still lots of talk about significant Mid-East risk premium in the current oil price. But OPEC+ is in no way anywhere close to loosing control of the oil market. Thus what will really matter is what OPEC+ decides to do in June with respect to production in Q3-24 and the market knows this very well. Saudi Arabia’s social cost-break-even is estimated at USD 100/b today. Also Saudi Arabia’s purse is hurt by 21% US inflation since Jan 2020. Saudi needs more money to make ends meet. Why shouldn’t they get a higher nominal pay as everyone else. Saudi will ask for it

Bjarne Schieldrop, Chief analyst commodities, SEB

Brent is down USD 3/b vs. last week as the immediate risk for Iran-Israel has faded. But risk is far from over says experts. The Brent crude oil price has fallen 3% to now USD 87.3/b since it became clear that Israel was willing to restrain itself with only a muted counter attack versus Israel while Iran at the same time totally played down the counterattack by Israel. The hope now is of course that that was the end of it. The real fear has now receded for the scenario where Israeli and Iranian exchanges of rockets and drones would escalate to a point where also the US is dragged into it with Mid East oil supply being hurt in the end. Not everyone are as optimistic. Professor Meir Javedanfar who teaches Iranian-Israeli studies in Israel instead judges that ”this is just the beginning” and that they sooner or later will confront each other again according to NYT. While the the tension between Iran and Israel has faded significantly, the pain and anger spiraling out of destruction of Gaza will however close to guarantee that bombs and military strifes will take place left, right and center in the Middle East going forward.

Also OPEC+ wants to get paid. At the start of 2020 the 20 year inflation adjusted average Brent crude price stood at USD 76.6/b. If we keep the averaging period fixed and move forward till today that inflation adjusted average has risen to USD 92.5/b. So when OPEC looks in its purse and income stream it today needs a 21% higher oil price than in January 2020 in order to make ends meet and OPEC(+) is working hard to get it.

Much talk about Mid-East risk premium of USD 5-10-25/b. But OPEC+ is in control so why does it matter. There is much talk these days that there is a significant risk premium in Brent crude these days and that it could evaporate if the erratic state of the Middle East as well as Ukraine/Russia settles down. With the latest gains in US oil inventories one could maybe argue that there is a USD 5/b risk premium versus total US commercial crude and product inventories in the Brent crude oil price today. But what really matters for the oil price is what OPEC+ decides to do in June with respect to Q3-24 production. We are in no doubt that the group will steer this market to where they want it also in Q3-24. If there is a little bit too much oil in the market versus demand then they will trim supply accordingly.

Also OPEC+ wants to make ends meet. The 20-year real average Brent price from 2000 to 2019 stood at USD 76.6/b in Jan 2020. That same averaging period is today at USD 92.5/b in today’s money value. OPEC+ needs a higher nominal price to make ends meet and they will work hard to get it.

Price of brent crude — Source: SEB calculations and graph, Blbrg data

Inflation adjusted Brent crude price versus total US commercial crude and product stocks. A bit above the regression line. Maybe USD 5/b risk premium. But type of inventories matter. Latest big gains were in Propane and Other oils and not so much in crude and products

Total US commercial crude and product stocks usually rise by 4-5 m b per week this time of year. Gains have been very strong lately, but mostly in Propane and Other oils

Last week’s US inventory data. Big rise of 10 m b in commercial inventories. What really stands out is the big gains in Propane and Other oils

Take actual changes minus normal seasonal changes we find that US commercial crude and regular products like diesel, gasoline, jet and bunker oil actually fell 3 m b versus normal change.

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Analys

Nat gas to EUA correlation will likely switch to negative in 2026/27 onward

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6 dagar sedan

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20 april, 2024

Redaktionen

Historically positive Nat gas to EUA correlation will likely switch to negative in 2026/27 onward

Historically there has been a strong, positive correlation between EUAs and nat gas prices. That correlation is still fully intact and possibly even stronger than ever as traders increasingly takes this correlation as a given with possible amplification through trading action.

The correlation broke down in 2022 as nat gas prices went ballistic but overall the relationship has been very strong for quite a few years.

The correlation between nat gas and EUAs should be positive as long as there is a dynamical mix of coal and gas in EU power sector and the EUA market is neither too tight nor too weak:

Nat gas price UP => ”you go black” by using more coal => higher emissions => EUA price UP

But in the future we’ll go beyond the dynamically capacity to flex between nat gas and coal. As the EUA price moves yet higher along with a tightening carbon market the dynamical coal to gas flex will max out. The EUA price will then trade significantly above where this flex technically will occur. There will still be quite a few coal fired power plants running since they are needed for grid stability and supply amid constrained local grids.

As it looks now we still have such overall coal to gas flex in 2024 and partially in 2025, but come 2026 it could be all maxed out. At least if we look at implied pricing on the forward curves where the forward EUA price for 2026 and 2027 are trading way above technical coal to gas differentials. The current forward pricing implications matches well with what we theoretically expect to see as the EUA market gets tighter and marginal abatement moves from the power sector to the industrial sector. The EUA price should then trade up and way above the technical coal to gas differentials. That is also what we see in current forward prices for 2026 and 2027.

The correlation between nat gas and EUAs should then (2026/27 onward) switch from positive to negative. What is left of coal in the power mix will then no longer be dynamically involved versus nat gas and EUAs. The overall power price will then be ruled by EUA prices, nat gas prices and renewable penetration. There will be pockets with high cost power in the geographical points where there are no other alternatives than coal.

The EUA price is an added cost of energy as long as we consume fossil energy. Thus both today and in future years we’ll have the following as long as we consume fossil energy:

EUA price UP => Pain for consumers of energy => lower energy consumption, faster implementation of energy efficiency and renewable energy => lower emissions

The whole idea with the EUA price is after all that emissions goes down when the EUA price goes up. Either due to reduced energy consumption directly, accelerated energy efficiency measures or faster switch to renewable energy etc.

Let’s say that the coal to gas flex is maxed out with an EUA price way above the technical coal to gas differentials in 2026/27 and later. If the nat gas price then goes up it will no longer be an option to ”go black” and use more coal as the distance to that is too far away price vise due to a tight carbon market and a high EUA price. We’ll then instead have that:

Nat gas higher => higher energy costs with pain for consumers => weaker nat gas / energy demand & stronger drive for energy efficiency implementation & stronger drive for more non-fossil energy => lower emissions => EUA price lower

And if nat gas prices goes down it will give an incentive to consume more nat gas and thus emit more CO2:

Cheaper nat gas => Cheaper energy costs altogether, higher energy and nat gas consumption, less energy efficiency implementations in the broader economy => emissions either goes up or falls slower than before => EUA price UP

Historical and current positive correlation between nat gas and EUA prices should thus not at all be taken for granted for ever and we do expect this correlation to switch to negative some time in 2026/27.

In the UK there is hardly any coal left at all in the power mix. There is thus no option to ”go black” and burn more coal if the nat gas price goes up. A higher nat gas price will instead inflict pain on consumers of energy and lead to lower energy consumption, lower nat gas consumption and lower emissions on the margin. There is still some positive correlation left between nat gas and UKAs but it is very weak and it could relate to correlations between power prices in the UK and the continent as well as some correlations between UKAs and EUAs.

Correlation of daily changes in front month EUA prices and front-year TTF nat gas prices, 250dma correlation.

EUA price vs front-year TTF nat gas price since March 2023

Front-month EUA price vs regression function of EUA price vs. nat gas derived from data from Apr to Nov last year.

The EUA price vs the UKA price. Correlations previously, but not much any more.

Forward German power prices versus clean cost of coal and clean cost of gas power. Coal is totally priced out vs power and nat gas on a forward 2026/27 basis.

Forward price of EUAs versus technical level where dynamical coal to gas flex typically takes place. EUA price for 2026/27 is at a level where there is no longer any price dynamical interaction or flex between coal and nat gas. The EUA price should/could then start to be negatively correlated to nat gas.