September 2018 Monthly Average Crude Oil Price

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The monthly average U.S.-dollar price of West Texas Intermediate (WTI) crude oil edged up in September, by $2.18 (+3.2%), to $70.23 per barrel. The increase occurred within the context of a stronger U.S. dollar, the lagged impacts of an 84,000 barrel-per-day (BPD) decline in the amount of oil supplied/demanded during July (to 20.6 million BPD), and minor slippage in accumulated oil stocks (monthly average: 398 million barrels). 

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From the 1 October 2018 issue of Peak Oil Review:

Oil prices continue to increase primarily on concerns that the sanctions on Iran and the collapse of Venezuelan production will lead to shortages in the coming year. Last week London futures, which are more vulnerable to the Iranian situation, climbed by about $2 a barrel to close at $82.78. London futures are on track for a fifth quarterly advance, a streak not seen since the first half of 2008. Iranian exports of crude and condensates have declined by 800,000 b/d from April to September, according to the Institute of International Finance. Analysts expect a reduction of anywhere between 500,000 and 1.5 million b/d in Iranian supply due to the sanctions, with most expecting Saudi Arabia to take the lead in filling any supply gaps.

Last week saw a flurry of stories talking about $100 oil before the year is out. Bank of America Merrill Lynch even wondered if a 2008-style price spike, when oil reached $147 a barrel, was in the offing. However, not all observers are getting so excited about the certainty of a price spike. Barring another unexpected supply outage, the market should ride out the year just fine, according to Goldman Sachs. "We believe another supply catalyst beyond Iran would likely be needed for prices to meaningfully break to the upside," Goldman analysts wrote in a note. "In particular, we continue to expect that production from other OPEC producers and Russia will offset losses out of Iran, as has been the case so far." Goldman's sees Brent "stabilizing back into the $70-80 range into year-end."

The spread between London and NY futures widened during the week's trading as a steep decline in refinery utilization weighed on US crude oil futures. Total US refinery capacity dropped by five percentage points to 90.4% during the week ended 21 September and capacity was at its lowest level since early-March 2018. Lower-than-expected refinery runs are bearish for WTI relative to Brent, and the Brent/WTI spread jumped to $9.81 per barrel following the EIA release. The spread closed the week at $9.48. Given a spread of this size, it is difficult to see how foreign oil demand will not empty out US crude stockpiles until the spread shrinks.

The OPEC Production Cut: Last week the financial press was full of stories about an impending OPEC+ production increase to offset the decline in Iranian and Venezuelan exports. Saudi energy minister al-Falih started the week by rejecting accusations by President Trump that OPEC was keeping oil prices elevated through anti-competitive behavior. The minister also said Saudi Arabia holds about 1.5 million b/d of spare capacity, which it can tap "within days and weeks" and sustain if needed. "Whatever is needed we will do. If it's needed to produce that spare capacity, we will do that." The kingdom pumped 10.49 million b/d in August, according to the Platts survey, and has never produced above 10.7 million b/d.

On Tuesday President Trump again took a shot at Saudi Arabia and its refusal to lead an increase in oil production, by telling the UN that OPEC members were "as usual ripping off the rest of the world." Trump also attacked Iran in his speech, saying its leaders "sow chaos, death, and destruction," as he urged other nations to cut imports of Iranian oil to help isolate the regime. In a rejoinder, Iranian president Rouhani accused the US of actively working to overthrow his government and refused any direct talks with the Trump administration.

By Thursday there were reports that Saudi Arabia and other OPEC members were secretly discussing a half-a-million-barrel increase in their combined oil production to keep a lid on oil prices, amid growing concern that the Iran sanctions will create a severe shortage in global supply. By week's end, it was reported that Saudi Aramco is expected to increase production by an additional 550,000 b/d in the fourth quarter. If production can be increased by 550,000 b/d, it would push Saudi production to new highs above 11 million b/d. Many are skeptical that the kingdom can produce that much oil on a sustained basis.

US Shale Oil Production: The EIA reported last week that US oil production continues to grow to hit an average of 10.964 million b/d in July to break the output record set the previous month when output averaged 10.695 million b/d. Production in July was up 1.73 million b/d from July 2017. Texas again led all states with 4.469 million b/d of output in July, up 46,000 b/d from June and 1.03 million b/d in July 2017. North Dakota was the second largest producing state at 1.26 million b/d in July, up 41,000 b/d from June and 221,000 b/d from July 2017, EIA said. Production in federal Gulf of Mexico waters averaged 1.849 million b/d in July, up 189,000 from June and 92,000 from July 2017, according to EIA.

More attention is being paid recently to production in the Bakken which was hit harder than the Permian during the oil market downturn, with rigs and capital rerouted to West Texas. Oil production from the Bakken hit a temporary peak in late 2014 at 1.26 million b/d, declining for much of the next two years. However, production began to rise again in early 2017, and the EIA expects Bakken production to hit a new record of 1.33 million b/d in October.

Part of this revival is due to problems in expanding production in the Permian Basin with its pipeline bottleneck, the strain on rigs and equipment, completion services, labor, water and even road traffic is causing problems for shale drillers. Some drillers have decided to shift resources to more profitable locations, and the Bakken has received a boost as a result.

However, while production from the Bakken is still increasing, drillers are being pushed away from the "sweet spots" to less productive locations. The result is that the average well in the Bakken is producing less oil at its peak performance as fringe areas are dragging down the average. There is evidence that while the so-called new production techniques such as drilling much longer wells and using more sand can increase initial production, some doubt that despite the higher costs of drilling the new wells, they will produce much more oil overall.

A recent report from the North Dakota government acknowledged that the state is running out of new places to drill in its "sweet spots" but says that doubling the drilling can offset any decline brought about by new wells being less productive. In another two or three years we should know more about the future of the Bakken and other shale oil basins. 

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Selected highlights from the 28 September 2018 issue of OilPrice.com’s Oil & Energy Insider include:

Oil prices are closing out an extremely bullish week on a high, with U.S. sanctions on Iran and a fear of global supply shortages sparking a debate over the possibility of $100 Brent.

WTI and Brent held onto their gains during early trading on Friday and look set to close out the week strongly up. The tension between dwindling Iranian supply and the extent to which Saudi Arabia will increase production is sure to dominate the market narrative over the next few weeks.

Oil traders almost uniformly bullish. The mood at the Asia Pacific Petroleum Conference (APPEC) in Singapore was highly bullish on oil prices in the short-term, largely because of the supply losses from Iran. Bloomberg also noted that the number of Brent options has surged to its highest ever, "driven by record call trading, including bets on $100." Oil traders Mercuria and Trafigura see global production losses of about 2 million barrels per day and 1.5 mb/d, respectively, mostly related to Iran.

EU financing vehicle for Iran probably won't help oil. The "special purpose vehicle" to help Iran continue to do business with European companies may not have much of an impact on the oil trade. Buyers are not likely to be entirely protected from U.S. secondary sanctions. "I think it is a welcome development," Daniel Martin, a partner and sanctions expert at Holman Fenwick Willan in London, told Bloomberg. "But oil is not the arena it is going to be tested and used first."

Total SA sees $100 oil. Total SA CEO Patrick Pouyanne says $100 oil is possible but isn't excited about it. "I'm not sure it's a good news" he told Bloomberg. "Even for the oil industry, because you know, when price goes too high then you open the door to your competitors" while demand will likely decline, he said.

Saudi Arabia fears supply glut. OPEC+ decided against further production gains last weekend, although Saudi Arabia has indicated it would increase production in September and October. However, Saudi Arabia is also wary about creating a new supply glut, as the market will see a seasonal dip in demand in the winter. Riyadh is running the risk of a supply crunch in the fourth quarter, but Saudi officials fear the opposite problem if they increase production too much.

How much spare capacity does Saudi Arabia have? As the oil market tightens, scrutiny over Saudi Arabia's spare capacity is picking up. Saudi Arabia claims it can produce up to 12.0-12.5 mb/d, implying spare capacity of at least 1.5 mb/d. Analysts and industry insiders are skeptical. Bloomberg reports that executives at the Asia Pacific Petroleum Conference in Singapore privately questioned Saudi Arabia's ability to even go beyond 11 mb/d. "Near-term spare capacity is effectively maxed out," Amrita Sen of consultant Energy Aspects Ltd. said.

Permian pipeline woes may not be so bad. The pipeline bottleneck may end sooner than expected as pipelines are being fast tracked, according to a new report from Raymond James. The backlog should ease by late 2019, and the discount for WTI in Midland won't be as wide as feared. The firm downgraded its estimated discount for Midland WTI to just $15 per barrel relative to Brent, down from an earlier estimate of $25.

The foregoing comments represent the general economic views and analysis of Delphi Advisors, and are provided solely for the purpose of information, instruction and discourse. They do not constitute a solicitation or recommendation regarding any investment.