By Nick Cunningham
Despite the huge uncertainties related to the two massive hurricanes that hit the U.S., the global oil market looks tighter than it has in a long time, according to a new report from the International Energy Agency.
Global oil supply fell in August for the first time in four months, the IEA said, a result of a dip in OPEC’s oil production, combined with refinery maintenance and sizable outages from Hurricane Harvey. World oil supply fell by 720,000 barrels per day (bpd) in August compared to July, a significant decline that will aid in the market’s progress towards rebalancing.
Multiple outages contributed to the decline in global output. Hurricane Harvey resulted in U.S. oil production falling by 200,000 bpd in August—outages that occurred mostly in the Eagle Ford shale and offshore in the Gulf of Mexico. But OPEC also saw its collective output fall by 210,000 bpd in August, mainly from disruptions in Libya.
The supply outages will go a long way toward adding some momentum to the rebalancing effort, even if some of them are only transitory.
Another notable issue, the IEA said, was that U.S. oil supply is quite a bit lower at this point than it expected, and not just because of Harvey. The agency singled out the fact that U.S. oil production actually declined in June from a month earlier, an unexpected development. That meant that the Harvey disruptions resulted in output declines from a lower-than-anticipated base.
The demand side of the equation also looked bullish. The IEA revised up its forecast for oil demand growth this year, upping it to 1.6 million barrels per day (mb/d) from its July estimate of just 1.5 mb/d. The second quarter stood out, with quarterly growth of 2.3 mb/d year-on-year—the highest in two years. The Paris-based energy agency said that demand in OECD countries (i.e., rich industrialized countries that tend to have weak demand growth rates) “continues to be stronger than expected, particularly in Europe and the U.S.”
The stronger forecast is notable not just because it puts oil demand growth at its hottest in a long time, but also because the IEA essentially shrugged off any lingering effects from the storms in the U.S., concluding that the “impact on global markets is likely to be relatively short-lived.”
The IEA did point out that the U.S. Gulf Coast is more strategically important to the global oil market than ever. Texas and Louisiana exports some 4 mb/d of refined products along with 0.8 mb/d of crude oil. Crude oil exports are also set to rise further, so in a global context, the U.S. Gulf Coast has emerged as one of the most vital energy hubs, meaning that “in some respects, it can be compared to the Strait of Hormuz in that normal operations are too important to fail,” the IEA cautioned.
But the market appears to be handling the outages without too much trouble, certainly aided by the fact that inventories have been “comfortable.” That doesn’t mean that there aren’t significant atypical market conditions in Texas, Florida and the U.S. as a whole (there certainly are), but only that at the global level, the oil market won’t change all that much.
As for inventories, OECD stocks held steady in July from a month earlier, which is actually a bullish sign given that they typically rise at this point in the year. Crucially, refined products stocks in the OECD are only 35 million barrels above the five-year average. “Depending on the pace of recovery for the U.S. refining industry post-Harvey, very soon OECD product stocks could fall to, or even below, the five-year level.”
This point is significant. The oil market has been drowning in too much supply for three years, but at least for products (gasoline, diesel), inventories are getting close to average levels. OPEC’s goal is to bring crude oil inventories back to average levels, not just products. But if product inventories get back to normal, refineries will have to work harder to ensure that there is enough gasoline and diesel to meet consumer demand. That ultimately means a greater drawdown in crude stocks could be forthcoming. In other words, this is a sign that the market is rebalancing.
To be sure, at this point, few expect huge price spikes. In fact, some analysts warned everyone not to get too excited, not least because oil supply is still expected to grow by quite a bit through next year.
“The IEA sees strong demand growth and declining OECD inventories at the moment. But it also sees an increasing challenge for OPEC in 2018,” Bjarne Schieldrop, Chief Commodities Analyst at SEB, said in a statement. “Thus if OPEC wants to see further reductions in OECD inventories in 2018 they need to maintain cuts all through 2018 in order to push OECD inventories yet lower. If not, they will instead rise again.”
There are a lot of question marks about 2018, but in many ways, the IEA just published one of its more bullish reports in quite a while. Supply fell, demand is at its strongest in two years, and inventories are drawing down at a good pace.