Short Covering Rally Sent Crude Oil Up 6 Percent Last Week. Where Is Oil Headed Next?

Global-MarketsLast week U.S. equities staged a Santa rally mid-week after a stronger than expected OPEC World Oil Outlook came into focus combined with falling U.S. crude inventory data on Thursday, leading to crude oil short covering that helped launch energy stocks up over 4.5 percent for the week.

U.S. Crude oil (WTI) ended up over 6 percent for week, rising off a 2009 low, and settled at $38.10 on 12/24/15.

Brent crude rose from an 11 year low and closed at $37.89 per barrel on the same day.

On Wednesday OPEC released a World Outlook that was unsurprisingly bullish in the long term and underscored that global energy demand is set to increase by 50 percent in the current period to 2040 with the overall mix continuing to be led by fossil fuels at nearly 78 percent.

The World Outlook forecasts an annual increase of $5 per barrel in oil annually, sending oil prices to $80 per barrel by 2020, $123 by 2030, and more than $160 by 2040 based on a working assumption from a reference case scenario which uses nominal terms.

In real-value terms, using 2014 dollars and adjusted for inflation, crude prices will increase to $70/b in 2020 and to $95/b by 2040.

Long-term demand is dominated by the developing Asia region, which accounts for 70 percent of the increase by 2040.

Combined oil and gas are expected to supply around 53 percent of the global energy demand by 2040.

The overall share of OPEC in the total liquids supply is expected to increase to 37 percent in 2040, compared to current levels of around 33 percent, based on OPEC’s reference case for 2015.

The 2015 World Outlook also threw cold water on the electric car industry and claimed that by 2040 only 6 percent of the passenger car stock and 5.3 percent of commercial vehicles will be running on non-oil fuels.

Hybrid electric cars are counted as oil powered because the majority of them run on gasoline. The World Outlook projects that hybrids will gain 14 percent market share by 2040.

Shorter Term Projection

With the global economy projected to grow 3.1 percent, demand for OPEC crude in 2016 remains unchanged from the previous month and is forecasted to increase by 1.5 mb/d to average 30.8 mb/d.

For 1Q 2016 demand for OPEC crude was revised down by 0.1 mb/d while 3Q was revised up by 0.1 mb/d.

Second and forth quarter projections for 2016 remains unchanged.

U.S. Shale Companies Under Pressure

On Thursday crude oil prices were boosted by a report that showed U.S. crude inventories fell by -5.877 million barrels as of 12/19.

Due to the plummeting price of crude oil, U.S. shale companies have been under pressure to make write-downs and financial restructurings with their lenders.

In 2016 more U.S. shale companies are expected to face bankruptcies and restructuring because of the glut in world crude supplies combined with more pressure after largest OPEC member Saudi Arabia refuses to make production cuts while fighting for market share which comes after the U.S. government ended the 40 year long ban on oil exports on December 18th, resulting in more U.S. oil flowing through world markets.

Some oil analysts such as Dan Dicker, a former floor trader at the New York Mercantile Exchange with over 25 years of experience, and the author of Shale Boom, Shale Bust believes that crude oil prices will only marginally improve in 2016 and won’t get constructive until the 3rd quarter of 2016 and then only slowly improve.

“There’s a huge global glut that needs to be worked off, and even with production dropping here in the U.S. and elsewhere and  demand accelerating slightly globally, it’s going to take some for the glut to work off. So for the good news, gas prices will stay pretty moderate for people over the course of the next year,” Dicker said on Yahoo Finance’s The Final Round on Thursday.

Dicker believed that 2016 will be the year that we see a lot of defaults, bankruptcies, and restructurings inside the shale industry.

The Week Ahead

This will be another short week due to Friday January 1st being a holiday.

Economic data is very light for the week ahead with consumer confidence (December) reported on Tuesday in addition to the Case-Shiller 20 City Index (October).

Pending Home Sales (November) will be reported on Wednesday along with Crude Inventories (12/26) and the MBA Mortgage Index (12/26).

On Thursday Initial and Continuing Claims will come into focus next to Chicago PMI (December) and Natural Gas Inventories (12/26/15).

-Johnathan Schweitzer

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