After months of dropping oil prices with no end in sight, it seems that the commodity has finally come to its senses, with Brent, the international reference, rising up from approximately US$30 to around US$40 in less than one month. The itching question on everyone’s mind is “will it last?”.
Let us recall in brief what initially caused the oil prices to drop. The US shale oil industry boomed thanks to high oil prices, causing the country to ramp up its production significantly. Threatened by a loss of market share, Saudi Arabia then decided to increase its production figures, flooding the world with more oil than it could handle. Moreover, the lifting of sanctions on Iran allowed the country to re-enter the international oil market and to add to the already over-supplied market. Clearly, a surplus of supply is to blame for the industry’s woes, but the good news is that the troublemakers are cleaning up their act, willingly in some cases, and consequentially in others.
Russia, Saudi Arabia, Venezuela, and Qatar agreed in mid-February to freeze their oil output at January levels, a move that rekindled investor confidence in the industry, and sent prices up. This was a promising initiative, but some things should be highlighted, such as the fact that their January output levels were near record highs, and the agreement only freezes output, rather than calling for a reduction. Given that the market is already oversupplied, continuing at current levels will in no way help to balance it.
The industry pariahs (the US of course), on their side, are experiencing a drop in production, with industry data released at the end of February showing that Texas and North Dakota were the most affected states. These are the country’s two biggest shale states, leaving room for the idea that maybe Saudi Arabia’s strategy is working. By further oversupplying the market, the Kingdom was hoping to bring oil prices down so low that they would kill off the US’ shale industry. One has to wonder, however, if the rebound in oil prices will not have shale producers popping up across the country again.
Drops in oil supply can be credited to Nigeria, Iraq, and Turkey as well, all of which have suffered supply disruptions due to violence or pipeline attacks. The majority of these countries expect the issues to be solved within months. The timely maintenance schedules of refineries may also be thanked for this much-needed relief from low oil prices, as they begin in spring, and tend to impact production negatively.
That is it for the supply side. Now on to demand, and a global increase in this has also contributed to higher oil prices. There are two factors to consider here. First of all, data has led analysts to believe that global economic growth has hit the bottom, and will begin increasing again. Secondly, promise lies in the fact that gasoline demand has surged, and is expected to continue doing so into the summer months.
Great, right? Wrong. Do not let this swarm of good news get your hopes up. Looking at all the factors that led to an increase in oil prices, it is not difficult to discern a saddening trend: they are temporary (or insufficient, in the case of the output freeze). The only hope for a durable increase in oil prices would come from an agreement from a major producer to cut oil production, but given the likelihood of this happening, we would be better advised to look to global economic growth in hopes that it start rising. So keep an eye out!