In November, Opec published an article titled, “The IEA’s rendezvous with reality”. It criticised the International Energy Agency for predicting an imminent peak in oil demand. With a huge gap between the market views of the duelling agencies for this year, one or both are due a rethink.
The IEA forecasts a massive surplus in the oil market this year, which would presumably cause a crash in prices. Its latest monthly outlook, published on Thursday, trimmed demand growth estimates for this year to 850,000 barrels per day, after relatively high prices last month. Conversely, Opec predicts 1.4 million bpd of demand expansion.
The two groups also differ in expectations on supply from outside the Opec+ alliance: 1.4 million bpd of growth from the IEA, 0.8 million bpd forecast by Opec. Since the Paris-based agency believes the market was already in serious oversupply last year, this year’s implied glut would be huge, reaching 3.7 million bpd, a Covid-era style blowout.
Conversely, Opec sees demand for the wider alliance’s crude growing this year. This would allow the group to resume production increases from the second quarter.
The EIA’s middle ground
The third major international forecaster, the US’s Energy Information Administration, is stuck in the middle of this awkward trio. It predicts essentially no change to market balances this year, with what it sees as last year’s modest oversupply persisting. It more or less agrees with Opec on demand growth, and with the IEA on supply. Perhaps its moderation will turn out to be wisdom.
Since the IEA has not yet provided its short-term outlook for 2027, next year has an illusory sense of greater predictability. The EIA and Opec both see reasonable demand growth of 1.3 million bpd and much weaker non-Opec+ supply expansion of 0.7 million bpd.
Futures prices cannot be readily taken as predictions. But current Brent futures decline from about $67.50 per barrel for prompt prices, to $64 one year out, then gradually rise to $65.50 per barrel for prices three years in the future. The level of these prices has shifted up and down over the past month, but the shape of the curve has remained the same. Read simplistically, this does at least suggest a relatively weak market this year and an improvement next.
Against such deep uncertainty and conflicting opinions, what is the best course?
First is to think through scenarios. What would make material differences to these balances?
Risks on the supply side
Beyond significant shocks to economic growth, geopolitical risks hover over the supply side. These have not quite materialised, whether around Russia, Venezuela or Iran. If anything, resolutions to these conflicts could add a few hundred thousand barrels of supply in the near-term.
But domestic protests and US naval motions around Iran last month did push up prices by several dollars. A major conflict in the Middle East that seriously disrupts oil supplies is unlikely but its consequences would be major. Opec’s spare capacity would be sufficient to replace losses of Iranian exports, but only as long as other regional exporters are not seriously affected. An escalation in the Black Sea, damaging Russian and Kazakh exports, would be easier for the Gulf Opec members to cover for.
Two other factors, though, do provide some counterbalancing stability. China built up its crude stockpiles busily last year, at an average rate of about 0.75 million bpd. As long as prices remain reasonable, and especially while cheap sanctioned crude is available from Iran and Russia (though not now from Venezuela), it will keep buying.
And most global supply growth outside the Opec+ alliance last year came from the US and Latin America. Both of these should slow this year, with lower prices taking a toll on shale producers, and Brazil’s offshore development having a quieter year.
Second is to look beyond the headline numbers. The different agencies’ views have some important commonalities. For instance, they all see that demand growth has become more broad-based geographically. After periods when it was dominated by China, it is now split between the Middle Kingdom, India, the Middle East, Africa and other developing – mostly Asian – countries. Consumption growth in developed countries, meanwhile, is minimal or negative.
Demand by sector, conversely, has become more concentrated. The rise of electric vehicles has eroded growth in petrol and diesel demand. Despite some overstated proclamations of stagnation in the battery car market, in fact it is broadening beyond China and northern Europe. Vitol, the world’s largest independent oil trader, believes that global use of road transport fuels has already peaked.
Saudi Arabia’s conversion of its electricity sector from oil to gas and renewables could trim another 100,000 bpd from its domestic oil use this year.
Growth in oil consumption increasingly focuses on aviation, shipping and petrochemicals. This does not necessarily make too much difference for the short-term outlook. But it does mean that demand is more vulnerable to events that curb discretionary air travel – wars, pandemics and economic crashes.
Shipping demand could suffer from trade disputes and recessions, but also from resolutions of conflict, for instance a reopening of the southern Red Sea that would cut sailing distances. Finally, demand for light feedstocks is exposed to cycles in the petrochemical business, which is currently in a phase of heavy, Chinese-driven overcapacity.
Best and worst case scenarios
So while the base case looks like a relatively weak year for prices, this rendezvous with reality will probably not be as calamitous as the IEA figures imply. Opec retains plenty of discretion to pause its production increases, or forge ahead if the market looks favourable. And, worst cases aside, it has enough spare capacity to fill in for events that are surprising in specifics but unsurprising in occurrence.
