Oil markets are extremely volatile these days. After prices plunged into negative territory (for WTI) earlier this year, crude staged a remarkable recovery and is mostly bouncing around between $35 and $40 per barrel. Data provided by the EIA (Energy Information Administration) reveals that there is some pain associated with the space (as measured by growing inventories), but recent revisions to their estimates, combined with some key misconceptions put out by the EIA, illustrate that the market is well-positioned for upside to continue so long as a return to shutdowns caused by COVID-19’s widening spread does not occur.
Some healthy revisions
The EIA’s forecasts are not perfect, but they are one of the closest sources we have to accurate guidance for what the near-term future of the oil market should look like. Each month, in its STEO (Short-Term Energy Outlook), the organization discloses what it thinks the next several months of oil supply, demand, inventories, and more should look like, both for the US and for the aggregate of OECD nations. Based on their estimates, the picture for crude investors is looking up. To see this, we need only look at the table below. In it, you can see forecasts for both the US and for OPEC nations.
Estimates for both subjects were kept flat for last year, but we did see some bullish improvements for this year and next. This year, the EIA now expects US oil production to average 11.56 million barrels per day. This is 0.13 million barrels per day lower than the 11.69 million barrels per day estimated for the US one month earlier, and it’s down 0.67 million barrels per day from the 12.23 million barrels per day the nation averaged in 2019. Next year, output should fall another 0.72 million barrels per day, coming in 0.06 million barrels per day compared to May’s forecast. This year, OPEC’s output should be lower by 0.11 million barrels per day, but it should be flat in 2021 relative to the prior month’s expectations.
These OPEC figures are where things start to get murky. According to the OPEC+ supercut agreed upon earlier this year, OPEC nations and their allies should see output come in lower by about 6 million barrels per day for the second-half of this year following an even larger cut that preceded this six-month reduction for two months. Some of this drop should come from non-OPEC nations, like Russia, but even that has been estimated poorly by the EIA. They peg Russian declines averaging only 0.82 million barrels per day this year. For OPEC, they peg the number at about 2.5 million barrels per day. The bottom line here is that the organization is assuming fairly poor compliance with the production cut agreement or an early end to it or both. While anything could happen and some nations (like Iraq) have a poor history of adhering to their side of any agreement, the EIA is probably being way too conservative here.
Changes extend beyond just OPEC and the US. In the table below, you can see global supply, global demand, and the implied excess (or shortfall) of oil for the forecast period being covered. While global supply was higher last year than anticipated, this year and next year are showing bullish revisions, with crude output falling nicely. Demand is forecasted to be a little weaker this year than previously anticipated, but this is comfortably made up for when you look at 2019’s and 2021’s figures.
In all, this will have some big impacts on global oil markets. These revisions, if they end up being accurate, will work out to around 303.3 million barrels of less crude in storage, across the globe, compared to what the EIA thought just one month ago. Most of this will come next year as demand resurges and supply struggles to catch up. This is even if OPEC ends up growing its output by 1.87 million barrels per day year-over-year from current expectations and will be due in large part to US output being a total of 1.39 million barrels per day weaker in 2021 on average than in 2019.
The impact this will have on inventories is a bit mixed. As the table below illustrates, US inventory figures will actually end up being worse than expected a month ago, but total OECD inventories should be lower. This year, the OECD nations have seen an aggregate downward revision in stocks amounting to 102 million barrels. Next year, that will translates to a difference of 147 million barrels, despite 2019’s estimate being pushed up 2 million barrels.
Right now, there’s a lot of uncertainty in the oil patch and I understand why. Having said that, the data right now suggests that the environment is looking up for long-oriented investors in this space. So long as COVID-19’s continued spread does not result in further lockdowns (a distinct possibility given a lackluster response effort by the US and some other nations like Sweden), then next year should mark a solid return to normal for investors, even if the EIA’s estimates regarding OPEC+ are accurate. If they are wrong, and everything else is accurate, we could be set for a material crude shortage up ahead.
Crude Value Insights offers you an investing service and community focused on oil and natural gas. We focus on cash flow and the companies that generate it, leading to value and growth prospects with real potential.
Subscribers get to use a 50+ stock model account, in-depth cash flow analyses of E&P firms, and live chat discussion of the sector.
Sign up today for your two-week free trial and get a new lease on oil & gas!
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.