by Richard Turnill, Global Chief Investment Strategist, Blackrock
Richard explains what a delayed supply-and-demand rebalancing means for oil prices.
Fears of a supply glut have again hit the oil market. An expected rebalancing of supply and demand is taking longer than we thought. We now see oil trading in a range around current levels, as the market rebalances in the second half of the year.
Oil prices rose after an Organization of Petroleum Exporting Countries (OPEC) deal in November sparked optimism that production cuts would help bring supply and demand into balance. Higher-than-expected supply and weak demand then dashed these hopes. This was evident in more speculative bets on falling prices.
The supply-and-demand picture ahead
The global oil supply glut hasn’t eased as fast as we thought it would, but we expect to see a reduction in global oil inventories—and a rebalancing of supply and demand—in the second half of the year. Current OPEC compliance with production cuts is well above the historical average and it typically takes two to three quarters for inventories to reflect such cuts. Technological advances in U.S. shale are contributing to a supply surplus and keeping a cap on any oil price rise, but the growth rate of U.S. oil production has slowed recently. Also, we believe U.S. production could be further constrained by reduced labor supply and rising input costs. Elsewhere, recent increased production out of Libya and Nigeria doesn’t appear sustainable.
Global oil demand has not yet risen to offset higher supply, but we expect sustained above-trend economic growth globally to support oil demand from here. Against this backdrop of delayed rebalancing, we now see oil prices fluctuating around current levels, in a lower range than we had expected earlier this year.
We see selected opportunities in beaten-down energy assets. We prefer shares of exploration and production (E&P) companies, particularly low-cost U.S. shale producers. These firms can benefit from technological advances and operate on a short investment cycle. We also like emerging market energy equities and selected debt of high-quality E&P companies. Read more market insights in my Weekly Commentary.