OPEC’s expectations for a significant decline in global oil stocks for the rest of 2017 and into 2018 have been upended by new forecasts showing sharply lower demand for the producer group’s crude for the second half of 2017 and the first quarter of 2018. The International Energy Agency (IEA) unveiled substantial downward revisions to its global oil demand data for 2015 through 2018 in its latest monthly market report.
Projections that global oil demand would outpace supplies and lead to a substantial drawdown in global inventories have been critical to OPEC’s production strategy. The new revisions effectively lowering baseline demand have now altered the trajectory and project sharply lower market demand for OPEC crude for 2017 and 2018. The “Call on OPEC” has now been reduced by an estimated 600,000 barrels per day (kb/d) from July to December, sending a strong signal to OPEC and its non-OPEC partners that much deeper production cuts are needed to reach the goal of reducing lofty global stock levels closer to the industry’s five-year average.
The IEA incorporated new data for several non-OECD countries for 2015 in its August report, which led to a lower rebasing of demand levels that were carried through to 2018. Global demand was reduced in absolute terms on average by 325 kb/d on an annual basis from 2015-18. On a quarterly basis, however, some of the sharpest revisions reduced demand by 600 kb/d on average for the second half of 2017 and first quarter of 2018, long touted as a crucial period for market rebalancing.
Oil Markets Unraveling
Global oil prices were trading at two-month highs in early August with a combination of seasonally stronger oil demand, reduced crude exports from Saudi Arabia, significant stock drawdowns in the key U.S. market, and heightened political risk factors in Venezuela all converging to support a higher price range. The much weaker outlook for future stock balances following the data revisions and continued worries over U.S. shale supplies have now reversed that trend, with prices tumbling $1.25-1.50 per barrel ($/bbl) since August 14. Prices for benchmark Brent were last trading at $50.85/bbl and U.S. West Texas Intermediate (WTI) at $47.60/bbl.
The downward adjustment to global oil demand since 2015 may also explain why stocks have remained so stubbornly high since the surplus apparently was much larger than previously captured in the data. Without a corresponding reduction in global production, the unconsumed oil is reallocated to stocks. For 2015 and 2016, those volumes amounted to around a very steep 225 million barrels. The IEA noted that the “impact of carrying this lower demand base into 2017 against unchanged supply numbers is that stock draws later in the year are likely to be lower than first thought.” That appears to be something of an understatement given the magnitude of the revisions and, more importantly, the impact on global oil stock levels.
Prior to August’s revisions, the IEA forecast strong demand growth would lead to a decline in industry stocks of around 1.1-1.2 million barrels per day (mb/d) in the second half of 2017. Now, however, the revised data indicates a drawdown of a marginal 60 kb/d in the third quarter and a modest 230 kb/d decline in the fourth quarter. For the first quarter of 2018, stocks are now projected to rise by a sharp 950 kb/d compared to a much smaller increase of 170 kb/d forecast previously.
Global Oil Demand Growth Remains Robust
Against this gloomier backdrop, however, both the IEA and OPEC raised projections for oil demand growth in 2017 and 2018. Though, notably, while the absolute level of demand was lowered, annual growth rates were unaffected by the changes. The IEA’s revisions reflect the submission of more complete data for 2015 being reported by non-OECD countries to the IEA for its World Energy Statistics annual report, which almost always leads to a rebasing of world demand levels, though this year the changes were especially important. Most revisions were for non-OECD countries, with Indonesia, Malaysia, and Iran reporting the most significant changes.
The IEA raised demand by 100 kb/d to 1.5 mb/d for an average 97.6 mb/d in 2017 and 1.4 mb/d to 99 mb/d in 2018. The OPEC Secretariat increased demand by a stronger 200 kb/d for 2017 and 2018 in its August oil market report. The upward revisions reflected more positive growth in OECD countries, especially the United States and Germany.
Non-OPEC Supply Growth Unchanged
Production by non-OPEC countries will post strong increases in 2017 and 2018, with the United States driving growth. Total non-OPEC production is forecast to rise by 700 kb/d to 58.1 mb/d in 2017 and by a much stronger 1.4 mb/d to 59.6 mb/d in 2018, according to the IEA. U.S. tight oil production will account for the lion’s share of the increase for both years, up by 600 kb/d on average in 2017 and by just over 1 mb/d in 2018. Other non-OPEC producers Canada, Brazil, and Kazakhstan will provide additional new production of a combined 600 kb/d.
U.S. oil shale output growth continues apace despite a slowdown in rig activity. Increased well productivity and improved operating have propelled production to just over 6 mb/d in August, a record high. In its latest forecast, the U.S. Energy Information Administration projected shale production for September will rise by a further 115 kb/d to 6.15 mb/d, its ninth consecutive monthly rise.
OPEC Market Management Strategy Upended
The IEA downward revisions led to a commensurate reduction in demand for OPEC crude, essentially redrawing the market outlook and forcing OPEC to reconsider its production strategy in the coming months. The group has invested its credibility on forecasts of a steep inventory decline in the second half of the year and even 100 percent compliance with new production targets will not be enough to deliver the desired results. Moreover, the group’s production rose for the fourth month in a row in July, rising to its highest levels since the new output agreement surged to over 1 mb/d in July, accounting for 75 percent of OPEC’s increase of 230 kb/d to 32.8 mb/d in July. Higher production by the United Arab Emirates and Iran also reduced overall compliance by members party to the production agreement to 75 percent in July.
Saudi crude oil production remained near 10 mb/d in July but Khalid al-Falih, minister of energy, industry, and mineral resources, pledged to reduce crude oil exports by 600 kb/d in August and September, in part to offset higher output by other noncompliant members.
Falih continued on his relentless rounds of shuttle diplomacy in August to emphasize the need for greater compliance by some chronic overproducers. Significantly, both Falih and Saudi Crown Prince Mohammed bin Salman met with Iraqi Oil Minister Jabar Ali al-Luaibi to discuss the country’s high level of production. Iraq’s compliance with its production target has averaged just 38 percent since the agreement went into effect in January. After the meeting, Luaibi promised to rein in production but doubts persist about Iraq’s commitments to the agreed cuts.
The deterioration in the oil market outlook in the medium term following the IEA’s revisions, in tandem with declining prices, will likely force OPEC’s hand before the next scheduled full ministerial meeting in November. The next extraordinary session of the Joint OPEC-Non-OPEC Technical Committee, scheduled for August 21 in Vienna, will likely focus on the potential for deeper cuts given the reduced call on the group’s supplies as well as maintain efforts to stabilize prices and rebalance oil markets.