Last updated: July 17, 2014 5:19 pm

Supply setbacks will push oil price higher

FILE - In this file photo of Friday, July 17, 2009, an Iraqi worker operates valves at the Nahran Omar oil refinery in Zubair near the city of Basra, 340 miles (550 kilometers) southeast of Baghdad, Iraq. The turmoil in Iraq has thrown the OPEC member’s ambitious plans to boost oil production into doubt, threatening to crimp its most vital economic lifeline. Northern oil fields imperiled by the militants’ advance have been shut down, and companies have begun evacuating workers elsewhere in the country. Iraq’s Kurdish minority has moved to solidify control over the northern oil-rich city of Kirkuk and other disputed areas, weakening Baghdad’s claims to the energy riches buried beneath while bolstering the Kurds’ aspirations of greater autonomy. (AP Photo/Nabil al-Jurani, File)©AP

A possible resumption of oil exports from Libya, as yet unhindered production in Iraq, and hopes of a nuclear deal with Iran, have caught the oil market on the hop.

It was only a month ago that Brent, the international crude oil marker, rose to more than $115 a barrel amid fears of a disruption to oil supplies as insurgents swept across northern Iraq. But these anxieties soon dissipated and oil has been in freefall.

This week Brent suffered its biggest one day percentage drop since January, triggering a scramble to unwind positions that took the price to a low of $104 a barrel. Traders are now asking whether the rapid sell-off is over or has further to run.

The correction witnessed over the past few weeks was prompted by weakness in the physical market, say analysts. Lacklustre demand from refiners in Asia and Europe, as well as a slowdown in strategic buying by China, has meant there is plenty of Brent sloshing around in the short term.

This was illustrated by the fall in futures prices, with the front-month Brent contract falling to its biggest discount compared with the second-month contract in four years. This price structure, known in industry jargon as contango, usually suggests a surplus of crude available for immediate delivery.

“Those looking for a tight crude market this summer . . . have so far been let down by reality,” Citi analysts say in the bank’s third-quarter energy outlook.

But for how much longer?

While the crude price may remain on a downward trend for another few weeks yet as the supply overhang persists, particularly in the west African market and the North Sea, it is likely to tick back higher longer term, according to Amrita Sen at Energy Aspects.

ICE September Brent rose 0.6 per cent to $107.84 on Thursday, while Nymex August WTI traded 1.3 per cent higher at $102.57.

David Wech, analyst at JBC Energy, echoes this sentiment: “We expect gas oil/diesel demand to be higher by 600,000 b/d over the next five months compared to the March to July period.”

He adds: “This reflects largely seasonal factors – summer travelling, agriculture harvesting season and buying for [the] upcoming winter.”

In its closely followed monthly report, the International Energy Agency says global refinery throughputs already appeared to be rebounding, buoyed in part by record runs in Russia, capacity increases in Saudi Arabia and a return from unplanned outages in the US.

On top of that, many traders are sceptical about Libya’s efforts to bring back a significant portion of its lost production. Before its civil war, the country was producing about 1.4m b/d.

Although rebels have lifted blockades of two key terminals and a major oilfield has resumed production, it may take some time for output to pick up, says Gareth Lewis-Davies, oil market ‎strategist at BNP Paribas.

Fighting in Tripoli and the closure of the Brega oil terminal has only underlined the fragility of the country’s political and security situation. Analysts say they are wary of government figures – which show production has risen to more than 550,000 b/d – and note the lack of cargo loadings.

“It is reported that Total started to evacuate some staff from Libya and we wonder how long it will take before Sharara shuts down again,” says Olivier Jakob, managing director of Petromatrix, a Swiss based consultancy.

And not all industry watchers are convinced Iraqi oil production can be maintained at current levels.

“You have got to worry here,” says Jan Stuart, head of oil markets research at Credit Suisse. “Think, if there are fewer people on the ground managing oilfields [as many foreign workers have been evacuated] it is only a matter of time before flows will decline.”

Exports meanwhile have been under pressure from infrastructure bottlenecks unrelated to the violence stemming from the sectarian crisis.

The preliminary August loading programme for Iraq’s Basra terminal is set at 2.2m b/d, down from the record high of 2.79m b/d in July, says Energy Aspects, the London-based consultancy.

Separately, while some analysts stress the positives of the talks with Iran over its nuclear programme, recent comments from the US secretary of state John Kerry suggest there are still major differences between the parties.

“Very few people believe any real deal will be achieved by Sunday leading to actual increases in oil exports this calendar year,” says Neil Atkinson, head of energy research at the consultancy Datamonitor, who believes US midterm elections will prolong decision-making.

An extension of the interim deal that would leave the current oil sanctions in place for the rest of 2014 is the most likely situation, he says.

Although it does not have any immediate supply implications, the recent flare-up in the conflict between Israel and Palestine is adding to the destabilisation of the region. Fighting between Ukrainian forces and pro-Russia separatists has also intensified since a ceasefire was called off on July 1. The oil industry is also keeping an eye on the impact of the latest round of US sanctions on Russia.

Indeed, “extraordinarily high” supply risks in the Middle East and north Africa were cited by the IEA as one reason oil prices were likely to recover from recent weakness.

“While the market may be going through something of a soft patch, prices remain historically high and there is no sign of a turning of the tide just yet,” the watchdog says.

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