International Commentary: The Unsustainable US$60 Oil Spike in 2017 Rakesh Upadhyay,, 27 Dec 2016

An eventful year for oil is coming to an end. During the year, crude oil sank to depths unseen since 2003, but recovered nicely to above US$52 per barrel by December. We saw OPEC hammer out a deal to cut production, another first in eight years, and non-OPEC nations like Russia also pitched in with their contribution to a production cut.

Will 2017 also be another year of ups and downs, or does the picture for next year look much better for the oil bulls? Let’s analyse.

EIA projections

The latest Short-Term Energy Outlook released on 6 December, forecasts Brent to average US$52 a barrel and WTI to average US$51 a barrel in 2017. While the EIA expects both Brent and WTI to average US$50 a barrel during the first half of 2017, the second half is likely to see higher oil prices of US$55 a barrel.

Global inventory builds are likely to average 0.4 MM bpd for 2017, with the first half showing higher builds at 0.8 MM bpd.

As far as total world production and consumption is concerned, the EIA forecasts 97.42 MM bpd in production, whereas demand is forecast to be 96.99 MM bpd.

OPEC crude oil production is likely to be 33.2 MM bpd in 2017. Nigeria continues to struggle due to militant attacks, and similarly, Libya is also held back by tribal militia infighting.

Global oil demand is expected to increase by 1.6 MM bpd in 2017, and the real oil-weighted world GDP growth is expected to be 2.7% in 2017. An increase in demand has been factored in considering the strong PMI numbers in India, China, Europe and the US, which indicates increased oil demand.

What are the risks to higher oil prices?

There are a few risks, which we believe will limit the rally in crude oil prices.

1. Though the OPEC nations will follow up on their promise to cut production in the first two or three months of 2017, they are unlikely to continue any further. The fiscal situation in the oil producing nations cannot sustain any decrease in revenues, as most are reeling under the pressure of low oil prices.

2. Higher oil prices will revive the shale oil industry in the US, which will attempt to increase its exports into new markets, thereby threatening to enter markets previously dominated by the middle east nations. As this is a real threat, OPEC members will start pumping frantically so as to not lose their hard-earned market share.

3. Demand growth from China and India might not be as supportive as 2016. While India is dealing with the demons of demonetisation, China has tightened the regulations on its teapot refiners and its storage facilities are filling up. Both these events are likely to reduce demand growth from the two major nations guzzling crude oil.

4. A stronger dollar, as expected by most analysts, will also curb demand. If the US resorts to trade protectionism, it is likely to start trade wars, thereby threatening the global recovery, leading to lower oil demand.

However, in the first quarter, we expect crude oil prices to trade higher to US$60 a barrel, as news of the OPEC nations maintaining their quotas will provide a temporary boost. These higher levels are unlikely to be sustained, though.

What do the charts suggest?

(Click here to view enlargement)

The crude oil chart shows an ascending triangle pattern, which is bullish in nature. Though crude oil prices broke out to the upside, there has been little follow-up buying. However, at times, breakouts are unsuccessful during the first attempt. After some consolidation, another attempt is made, which can lead to higher oil prices, which we believe will happen in the first quarter of 2017.

However, US$61 is a strong resistance, which is unlikely to be scaled. Higher oil prices will accelerate the shale oil recovery and entice nations like Libya, Iran and Nigeria to ramp up production. Following this, we expect prices to correct in the second quarter onward.

On the downside, the floor for crude oil prices is US$52, US$44 and US$36 per barrel levels. After the initial jump, crude is likely to trade below US$52 a barrel for most of the second half of 2017.

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