A partial rebound in oil prices over the last month following a 60% crash since June suggests market participants are seeing light at the end of the tunnel and growing confident that spending cuts by oil companies will lead to a market recovery. The market rallied in late January on news of a steep drop in the US rig count. Since then, oil companies provided market participants with further insights in their quarterly earnings report into the full scope of their budget cuts. Yet supplies so far remain abundant, and it will take time for investment cuts to make more than a relatively small dent on production. In the meantime, inventories are likely to build further. Barring any unforeseen disruption, OECD stocks may by mid-2015 come close to revisiting the all-time high of 2.83 billion barrels reached in August 1998, shortly before WTI prices sank to an average monthly low of $11.22/bbl.
It is not unusual in a market correction for such a gap to emerge between market expectations and current trends. Such is the cyclical nature of the oil market that the full physical impact of demand and supply responses can take months, if not years, to be felt. While price drops as large as were just experienced call for urgent measures by industry participants, the consequences of those steps can matter more in the next five to six years than in the near future, for today's investment decisions typically take years to translate into physical supply/demand reality.
Such lagged effects are the focus of the IEA's Medium-Term Oil Market Report (MTOMR), whose latest edition is released in conjunction with this Report. MTOMR 2015 points to a significant rebalancing of the market on the back of widespread upstream spending cuts, with the "Call on OPEC and stock change" forecast to bounce back over the group's current production levels by 2016 and to rise steadily thereafter. Due to the publication of MTOMR 2015, this month's Report is abridged to a full set of usual data, without commentary. MTOMR is once again provided free of charge to Report subscribers, while non-subscribers can also purchase it online (here). The Report will resume its usual format in March.
One of the findings of MTOMR 2015 is that while the lagged nature of investments will remain a hallmark of this rebalancing, as it had been of corrections to price plunges in decades past, the lag of the latest market response might in fact be shorter than usual. Thanks to the short lead time and treadmill-like spending needs of US light tight oil (LTO), non-OPEC supply has become on average more price responsive than during previous price plunges. Investment cuts in LTO, while they will only account for a portion of the oil industry's overall upstream budget cuts, will be among the first to be felt. Expectations of North American supply have been reduced by 0.5 mb/d for 4Q15 and 0.3 mb/d for 3Q15, with cuts elsewhere biting later. The swiftness of LTO supply cuts will help put a floor under prices, just as their reversal when prices rebound in earnest might put a ceiling over them.
Supply expectations for the first half of 2015 have yet to be significantly reduced, however, and the latest data for December 2014 show no further reduction in the estimate of 4Q14 supply. Industry oil stocks inched down by just a tiny fraction of their usual draw in December, sending their surplus versus average levels to 65 mb, its widest since October 2010, from 16 mb a month earlier. Preliminary data suggest stocks posted a large seasonal stock build in January. Floating storage is on the rise.
In light of recent revisions to the supply forecast, the "Call on OPEC and stock change" has been revised upwards to 30.2 mb/d for 2H15 - above OPEC's current production target, but still below current production levels. The Call for 1Q15 has been trimmed, however. Despite expectations of tightening balances by end-2015, downward market pressures may not have run their course just yet.