Oil Fundamentals Could Cause Oil Prices To Fall, Fast!

Tyler Durden's picture

Submitted by Arthur Berman via OilPrice.com,

Oil prices should fall, possibly hard, in coming weeks. That is because fundamentals do not support the present price.

Prices should fall to around $30 once the empty nature of an OPEC-plus-Russia production freeze is understood. A return to the grim reality of over-supply and the weakness of the world economy could push prices well into the $20s.


A Production Freeze Will Not Reduce The Supply Surplus

An OPEC-plus-Russia production cut would be a great step toward re-establishing oil-market balance. I believe that will happen later in 2016 but is not on the table today.

In late February, Saudi oil minister Ali Al-Naimi stated categorically, “There is no sense in wasting our time in seeking production cuts. That will not happen.”

Instead, Russia and Saudi Arabia have apparently agreed to a production freeze. This is meaningless theater but it helped lift oil prices 37 percent from just more than $26 in mid-February to almost $36 per barrel last week. That is a lot of added revenue for Saudi Arabia and Russia but it will do nothing to balance the over-supplied world oil market.

The problem is that neither Saudi Arabia nor Russia has greatly increased production since the oil-price collapse began in 2014 (Figure 1). A freeze by those countries, therefore, will only ensure that the supply surplus will not get worse because of them. It is, moreover, doubtful that Saudi Arabia or Russia have the spare capacity to increase production much beyond present levels making the proposal of a freeze cynical rather than helpful.

(Click to enlarge)

Figure 1. Incremental liquids production since January 2014 by the United States plus Canada, Iraq, Saudi Arabia and Russia. Source: EIA & Labyrinth Consulting Services, Inc. (click image to enlarge)

Saudi Arabia and Russia are two of the world’s largest oil-producing countries. Yet in January 2016, Saudi liquids output was only ~110,000 bpd more than in January 2014 and Russia was actually producing ~50,000 bpd less than in January 2014. The present world production surplus is more than 2 mmbpd.

By contrast, the U.S. plus Canada are producing ~1.9 mmbpd more than in January 2014 and Iraq’s crude oil production has increased ~1.7 mmbpd. Also, Iran has potential to increase its production by as much as ~1 mmbpd during 2016. Yet, none of these countries have agreed to the production freeze. Iran, in fact, called the idea “ridiculous.”

Growing Storage Means Lower Oil Prices

U.S. crude oil stocks increased by a remarkable 10.4 mmb in the week ending February 26, the largest addition since early April 2015. That brought inventories to an astonishing 162 mmb more than the 2010-2014 average and 74 mmb above the bloated levels of 2015 (Figure 2).

(Click to enlarge)

Figure 2. U.S. crude oil stocks. Source: EIA and Labyrinth Consulting Services, Inc. (click image to enlarge)

The correlation between U.S. crude oil stocks and world oil prices is strong. Tank farms at Cushing, Oklahoma (PADD 2) and storage facilities in the Gulf Coast region (PADD 3) account for almost 70 percent of total U.S. storage and are critical in WTI price formation. When storage exceeds about 80 percent of capacity, oil prices generally fall hard. Current Cushing storage is at 91 percent of capacity, the Gulf Coast is at 87 percent and combined, they are at a whopping 88 percent of capacity (Figure 3).

(Click to enlarge)

Figure 3. Cushing and Gulf Coast crude oil storage. Source: EIA and Labyrinth Consulting Services, Inc. (click image to enlarge)

Prices have fallen hard in step with growing storage throughout 2015 and early 2016. Since talk of a production freeze first surfaced, however, intoxicated investors have ignored storage builds and traders are testing new thresholds before they fall again.

The truth is that prices will not increase sustainably until storage volumes fall, and that cannot happen until U.S. production declines by about 1 mmbpd.

Despite extreme reductions in rig count and catastrophic financial losses by E&P companies, production decline has been painfully slow. The latest data from EIA indicates that February 2016 production will fall approximately 100,000 bpd compared to January (Figure 4).

(Click to enlarge)

Figure 4. U.S. crude oil production and forecast. Source: EIA STEO, EIA This Week In Petroleum, and Labyrinth Consulting Services, Inc. (click image to enlarge)

That is an improvement over the average 60,000 bpd monthly decline since the April 2015 peak. It is not enough, however, to make a difference in storage and storage controls price.

EIA and IEA will publish updates this week on the world oil market balance and I doubt that the news will be very good. IEA indicated last month that the world over-supply had increased almost 750,000 bpd in the 4th quarter of 2015 compared with the previous quarter. EIA data corroborated those findings and showed that the surplus in January 2016 had increased 650,000 bpd from December 2015.

Oil Prices and The Value of the Dollar

Why, then, have oil prices increased? Partly, it is because of hope for an OPEC production freeze and that sentiment is expressed in the OVX crude oil-price volatility index (Figure 5).

(Click to enlarge)

Figure 5. Crude oil volatility index (OVX) and WTI price. Source: EIA, CBOE and Labyrinth Consulting Services, Inc. (click image to enlarge)

The OVX reflects how investors feel about where oil prices are going. It is sometimes called the “fear index.” That suggests that investors are feeling pretty good and less fearful about the oil markets than in the last quarter of 2015 when oil prices fell 47 percent. Since mid-February, prices have increased 37 percent.

But there is more to it than just hope and that may be found in the strength of the U.S. dollar. The negative correlation between the value of the dollar and world oil prices is well-established. The oil-price increase in February was accompanied by a decrease in the trade-weighted value of the dollar (Figure 6).

(Click to enlarge)

Figure 6. U.S. Dollar value vs. WTI NYMEX futures price. Source: EIA, U.S. Federal Reserve Bank and Labyrinth Consulting Services, Inc. (click to enlarge)

Now, that trend has reversed. The U.S. jobs report last week was positive so continued strength of the dollar is reasonable for a while. Assuming the usual correlation, that means that oil prices should fall.

Oil Prices Should Fall Hard

It is a sign of how bad things have gotten in oil markets that we feel optimistic about $35 oil prices. It should also be a warning that the over-supply that got us here has not gone away.

Oil storage volumes continue to grow and that is the surest indication that production has not declined enough yet to make a difference. It is impossible to imagine oil prices rising much beyond present levels until storage starts to fall. In fact, it is difficult to understand $35 per barrel prices based on any measure of oil-market fundamentals.

The OPEC-plus-Russia production freeze is a cynical joke designed to increase their short-term revenues without doing anything about production levels. An output cut would make a difference but a freeze on current Saudi and Russian production levels means nothing. It apparently made some investors feel better but it didn’t do anything for me. Iran got this one right by calling it ridiculous.

No terrible economic news has surfaced in recent weeks but that does not change the profound weakness of a global economy that is burdened with debt and weak demand. The announcement last week by the People’s Bank of China that it sees room for more quantitative easing may have comforted stock markets but it only added to my anxiety about reduced oil consumption and future downward shocks in oil prices.

I hope that oil prices increase but cannot find any substantive reason why they should do anything but fall. As market balance reality re-emerges in investor consciousness and the false euphoria of a production freeze recedes, prices should correct to around $30. A little bad economic or political news could send prices much lower.

Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
Dr. Engali's picture

Please, don't talk to me about fundamentals. They have been thrown out long ago.

ejmoosa's picture

Fundamentals are still there.  The Keynesians have masked the true nature of things for a decade now...

But they won't be able to do it forever.  The stress on the fantasy systems is showing everywhere we look.

spastic_colon's picture

it appears that when the "fundamentals" of oil fail like today then TPTB puts it to work in the "fundamentals" of the FANG's lol

asteroids's picture

Engali is correct, fundamentals matter not when you can push the price with paper futures anywhere you want. We've seen folks burn millions in paper in order to score billions.

Pinto Currency's picture



What if its not about supply of oil but the settlement of the purchase of oil.

The OPEC/NOPEC meeting in Moscow later this month will be an interesting event.


illyia's picture

But, oh what a nice 4th wave across before a final down...

Who cares fundamentals?

The Real Tony's picture

What about all the years oil was around 100 dollars a barrel? Fundamentally the price should have been in the 20 to 30 dollar range all those years.

silverer's picture

Yes, that is true. They are that good at making stuff up.

Sam Clemons's picture

Where was this guy when Oil was $100 two years ago?  So tired of people jumping on trends for the last 10-20% of the trend, and saying they knew all along.

KnuckleDragger-X's picture

Oilprice has an axe to grind and grind it they must. The market is running on rumor and vague promises and I expect it'll actually spike when storage completely max's out......

Mr. BaGoggles's picture

Godspeed to lower oil prices and a crashing rubble!

Bunghole's picture

4 week zio troll in da house!

I am a Man I am Forty's picture

It was manipulated to the upside, now manipulated to the downside, oil should not be trading below $50

mandalou's picture

Oil should of never reached $50

walküre's picture

median average interest rates at 5% puts oil at $20

say what?

TradingIsLifeBrah's picture
TradingIsLifeBrah (not verified) walküre Mar 8, 2016 9:58 AM

Where can I find interest rates at 5%?  Junk bonds?  ;)

ejmoosa's picture

If you are a small business seeking a line of credit, the rates are higher.  That near zero rate if for those too big too fail and those connected aka crony capitalism.


TradingIsLifeBrah's picture
TradingIsLifeBrah (not verified) Mar 8, 2016 9:47 AM

OMG, Crude is at $37.20!! Sell, Sell, Sell

I think Gartman has proven that Technical trading and Fundamentals don't matter

theFNG's picture

Oh we are speaking fundamentally now?  

enosenose's picture


risk assets cannot free fall before Mar FOMC mtg... thats the order from the top.

Five Star's picture

Like everything these days it has more to do with the Fed than anything else






Bopper09's picture

The price of oil will be whatever the algos compute it to be.

Bryan's picture

Keep talking your book while oil continues to "soar".  You can't make it go down by telling people it's going to go down.

Yung Saver's picture

All I heard is "Buy that new F350 Super Duty"


Seasmoke's picture

Well that was an interesting hammer that knocked everything RED in a nanosecond. 

Atomizer's picture

The sand niggers will put their heads in the sand and behead people under Judism / Christianity faith. 

Monetas's picture
Monetas (not verified) Atomizer Mar 8, 2016 10:21 AM

Upvote, for the best use of "nigger" .... in an incomplete sentence ?

Mr. BaGoggles's picture

Racists like yourself should be forced to power their car with nothing but farts. F'ing moron.

Bunghole's picture

This is fight club.

SJW's like yourself need not apply.

Bernoulli's picture

Fundamentals? So if I get this article right this means there should be less people buying barrels of physical crude oil these days than selling? And this wasn't the case the last three weeks or at least it didn't matter, but now it does? And since the physical purchases are all made via a globally interconnected platform, called "the crude market place", where everybody has access to and the prices are displayed in a transparent manner and updated by the second, those crude prices are bound to go down?

Come on. Give me a fucking break.

SirBarksAlot's picture

First it was that our illustrious O lowered the price to bankrupt Russia.  Then, it was that Saudi Arabia was producing at top speed to bankrupt the US producers. 

But then someone revealed that our ISIS team was stealing Syrian oil and selling it to Turkey's refineries for $20 a barrel.  Russia put them out of business and the price started to rise.

How many times have we heard that the storage was over flowing?  Now, we're supposed to believe that 90% or so levels of storage is over the top. 

The only thing I can truly believe is the line about the dollar being aligned with the price of oil.  The rest is all window dressing to hide the great manipulation.


Atomizer's picture

Jew Fuck Kissenger promised everything when we attacked Kwait, Afghanistan, and Iraqi. 

Destabilizing countries is a bitch. Central planning is upside down. 

Monetas's picture
Monetas (not verified) Atomizer Mar 8, 2016 10:16 AM

Show us your top ten list .... of things .... the Joos are not responsible for ?

Deathrips's picture


Real science.



Mr. BaGoggles's picture

Did you realize you're wanted for war crimes on 3 continents?

Monetas's picture
Monetas (not verified) Mar 8, 2016 10:11 AM

Stop making alcohol from corn .... the socialist equivalent .... to pouring fresh milk down the sewer .... an obscenity ?

Bunghole's picture

Nothing wrong with making alcohol from corn.

Made some last week with cracked corn and amalyse enzymes and yeast.

Making fuel for automobiles from corn is idiotic.

Bernoulli's picture

Oh yeah and nothing says fundamentals like Chesapeake Energy Corporation stock. Down 16% in the first 50 minutes of trading today, however still up 58.7% in the last 5 trading days. And down 87% over the last 5 years.

Fundamentally speaking, the price of CHK should move hard in the coming weeks. Because fundamentals don't support this.

SirBarksAlot's picture

Who is producing all that Iraqi oil?


Everyone else appears to be slowing production but Iraq.  Maybe Putin and the Saudis agreed to reveal the identity of "The Shadow."

withglee's picture

Everyone else appears to be slowing production but Iraq.

Right. Because they were taking it in the ear earlier when USA+Canada was cranking up production ... while helping Iraq with democracy.

And Iran has a pretty good sized bathtub too. It's coming onto the chart is it not?

SirBarksAlot's picture

How were they helping Iraq with democracy?

I think you are correct about Iran.

withglee's picture

Isn't that what they said they were beating up on Hussain to do? Bring democracy to the people of Iraq?

I was being sarcastic.

spastic_colon's picture

"Growing Storage Means Lower Oil Prices"  Wrong!


It is the eventual RELEASE of the growing storage!

Mr. Schmilkies's picture

I thought this was a good article if only for showing how little storage is left. 

Quinvarius's picture

You use the word "fundamentals" but I do not think you know what it means.  Oil is probably going to 60 before anythig else happens, because of the fundamentals.

withglee's picture

Oil is probably going to 60 before anythig else happens, because of the fundamentals.

How is the supply/demand balance going to change for that to happen?