Why This Oil Rally Won't Last

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After market of tightening, oil market is tightening up once again. But it’s not clear how long the upward cycle will last. OPEC admitted this week that may need to keep the production cuts in place, perhaps beyond the latest extension, because of soaring production from U.S. shale.

A combination of geopolitical tension in the Persian Gulf, outages in Venezuela and Iran, pending interest rate cut by the Federal Reserve, and brewing storm in the Gulf of Mexico

The rally might have "further to go," as Standard Chartered put it in a recent note to clients. “We think the rally is likely to continue, allowing Brent to move well above USD 70 / bbl and WTI to test above USD 65 / bbl,” the investment bank wrote. "Fundamentals are supportive in Q3; we project a 0.5 million barrels per day (mb / d) global supply deficit, "while data from the IEA and OPEC

They are not alone. The EIA reported an enormous 9.5-million barrel decline in inventories last week. "This fourth consecutive weekly decline in US raw oil stocks shows that the US oil market is now tightening too," Commerzbank said. Storms in the Gulf of Mexico and tension in the Middle East are also bullish factors. "The overall situation points to further rising oil prices in the short term," Commerzbank concluded.

But, some temporary factors that could have dissipated, especially with shale supply still growing quickly. In OPEC’s latest Oil Market Report, the group laid out the challenge facing oil exporters. Demand growth may only reach 1.14 million barrels per day (mb / d) this year, but supply growth from non-OPEC countries alone could top 2.05 mb / d. Next year, non-OPEC supply could jump by another 2.4 mb / d, with demand again only growing by 1.14 mb / d. Related: OPEC: This Is Where Most New Oil Will Come From In 2020

In other words, OPEC + may be stuck with production cuts, forced to perpetually extend prices in collapsing. The supply curtailments do indeed put to the floor beneath prices, but that only serves to prop up even more shale drilling.

“Infrastructure constraints – particularly in the Permian pipeline capacity, the downward trend in rig counts, lower activity by service companies and less fracking – indicated in growth slowdown in 2019,” OPEC wrote in its report. "However … (w) ith 2.5 mb / d of expected new pipeline capacity from the Permian to the USGC, production from the booming the global market.

New export terminals also come into play. "The pipeline expansion with port enhancements for more exports – particularly in Corpus Christi Related: Oil Jumps On Hefty Crude Draw

OPEC’s conundrum is stark. OPEC’s July report offered to rather grim outlook for the cartel. "Demand for OPEC crude for 2019 was revised by 0.1 mb / d from the previous report to stand at 30.6 mb / d, 1.0 mb / d lower than the 2018 level," the report said. "Based on the first forecasts for world oil demand and non-OPEC supply for 2020, demand for OPEC crude for 2020 is projected at 29.3 mb / d, 1.3 mb / d lower than the 2019 level."

In other words, as U.S. shale continues to grow at a brisk peace, OPEC is faced with the possibility that its production is insufficient in balancing the market. Is OPEC suggesting that it might be only necessary to extend production even further in 2020? Time will tell, but the initial look into next year's supply / demand figures are encouraging if you are a member of the cartel.

By Nick Cunningham of Oilprice.com

More Top Reads From Oilprice.com:

. (tagsToTranslate) OPEC (t) Oil (t) Gas (t) Production Cuts (t) Oil Prices (t) Geopolitics (t) Gulf of Mexico (t) Hurricane (t) Supply Outages

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