Middle East oil is regaining an edge in its supply battle with US shale. Low prices and a slump in global demand caused by the Covid-19 pandemic are slowly tilting the scales back in favour of some of Opec’s low-cost producers.
This could mean the oil market is increasing its dependency on generally heavier crudes from some of the key Gulf exporters after many buyers had diversified their refining portfolios to take a greater share of lighter US grades.
However, the outcome of the US election, a second wave of the pandemic and Libyan crude’s potential return to the market, could again upset the delicate balance between supply and demand for both sides.
US crude producers have been hit hard by prices slumping around $40 a barrel. Output of crude and condensate from the light sweet crude producer may not start to recover until the second half of 2021 as the substantial drop in fracking crews and rig counts since March takes its toll.
S&P Global Platts Analytics predicts US output averaging just 10.24 million barrels a day in 2021, compared with 11.38 million bpd this year. The forecast is well below the runaway 13 million bpd pre-Covid-19 peak.
The growing number of bankruptcies in the US shale sector is another sign of stress. Midcap producer Oasis recently filed for Chapter 11 protection, part of a growing trend among companies producing marginal US barrels. Chesapeake and Chaparral Energy filed earlier this year, while Whiting Petroleum emerged from Chapter 11 and completed its financial restructuring recently.
The fragile state of US shale producers could mean most of the supply growth next year will be driven by the Opec+ alliance led by Saudi Arabia and Russia, leaving the market exposed to its policy changes and providing a heavier sourer diet.
The oil producer group is currently unwinding from its original 9.7 million bpd output cut deal, which is scheduled to taper down to 5.8 million bpd from January next year.
However, compliance with its quotas is another uncertainty weighing on market fundamentals.
Libyan production, which has been frozen from the market by internal strife, is poised to make a major return. Exports could reach 500,000 bpd or more in a matter of months if a fragile peace between warring factions holds. Output was as low as 110,000 bpd in early September before the UN-backed Government of National Accord and the self-styled Libyan National Army agreed a formal truce to restart pumping. However, the path back to sustained production remains fraught with uncertainty.
Meanwhile, the outcome of the US election could change the fate of Iran and Venezuela, both hit by sanctions. Platts Analytics sees potentially 3 million bpd of additional heavy sour crude hitting the market from the pair in the next couple of years if a breakthrough in geopolitical talks is made.
Even without the extra Iranian and Venezuelan barrels, three-quarters of output growth in 2021 is likely to come from the Middle East, with around 3 million bpd of additional supply hitting the market, according to Platts Analytics. Middle East crude is the mainstay supply for refineries in Asia, where economies such as that of China are recovering quicker from the demand slump caused by the pandemic.
Saudi Arabia, for example, pumped just 8.99 million bpd in September, according to the Platts survey in line with its quota, which suggests the Opec kingpin has plenty of wiggle room to add further barrels when desired.
Platts Analytics predicts oil demand growth of 6.3 million bpd next year, assuming a global economic upturn, which would still be around 2 million bpd, shy of 2019 levels.
Despite this expected demand growth, extra supply may keep a lid on oil prices. Opec+ producers may benefit from low-lifting costs and faster growth in key consumer markets in Asia, but prices are likely to remain below levels that would satisfy the budgetary break-evens that their economies require.
Platts Analytics sees fundamental weakness in the prompt Dated Brent structure for now with prices in the lower $40 a barrel range. More supply is a victory of sorts for Middle East producers over shale, but a Pyrrhic one at that.
Paul Hickin is Director at S&P Global Platts