The above chart highlights one major reason behind my forecast last August that oil prices were about to collapse. This was that US inventories were so high, storage was starting to run out:
- Inventory had reached all-time record levels, and was at around 60 days of sales (blue area)
- And so prices simply had to fall, to start rebalancing physical supply and demand (red line)
Today’s problem is that we now have to clear up the mess created by financial players’ search for their ‘store of value‘.
Oil companies can’t find new oil as fast as central banks can print electronic money, as I discussed last week. Nor can they suddenly turn off the supply tap overnight, even though it is clear the world now has a major energy surplus.
This is becoming a very serious issue, as the International Energy Agency (IEA) keeps reminding us:
- In December, it warned that OECD stocks could soon “bump up against storage capacity limits” if there was a mild winter and OPEC decided not to reduce its supply
- As of today, we are clearly having a mild winter and OPEC has decided not to cut supply – for reasons described in my “pH Report” Research Note
- Last Friday, the IEA updated its monthly forecast, and it is clearly worried about today’s rising inventory levels
The underlying issue is that the oil market, like China, is moving into the New Normal – or as the IEA describes it, seeing “a historic shift“. They warn:
“The next few years could nevertheless prove a period of reckoning for a market and an industry that, through the course of their 150-year history, have had to periodically reinvent themselves.”
And remarkably, even the IMF is starting to accept the inevitable. It has just cut its growth forecasts (again) for 2015 and 2016 – and there will be more cuts to come as the year progresses.
WILL PRODUCERS HAVE TO PAY FOR OIL STORAGE IN Q2 WHEN REFINERIES SHUT FOR MAINTENANCE?
In turn, today’s energy glut creates a potentially major problem in March/April, when refineries shutdown for post-winter maintenance. Where will the surplus be stored, and who will pay the bill?
We might still have some really cold weather between now and then. This would make the problem manageable. But if the weather remains generally mild, someone will have to pay for all the surplus oil to be stored at sea in tankers.
Will traders pay, as they did in Q2 2009, when they stored at least 70 million barrels? Their incentive was a strong price contango in the futures market, where prices for Q3 were well above those for immediate delivery in March? But 2015 is not the same as 2009, as demand growth is now falling.
So will producers have to pay?
This may sound a silly idea today. But investors are currently paying the German central bank (via negative inerest rates) to look after their money for them. This would also have seemed a silly idea, even 6 months ago,
After all, vast oil purchases by China and financial investors didn’t stop oil prices falling quite dramatically in Q4. This is why it is quite possible that producers might have to pay someone to look after their surplus crude oil as well.