In a world that’s dominated with short-termism, Andy Hall has to be commended unwavering belief that oil prices are heading back to historical highs despite being wrong for over two years. In his latest letter to investors of his commodities-focused hedge fund Astenbeck Capital, Hall once again reiterates his bullish thesis for the black gold claiming that falling inventory levels around the world, coupled with “low net speculative length and high speculative short interest” will “pave the way to higher prices.”
Andy Hall: Holding Out For Higher Oil As Oil Inventories Fall
In the June 1st 2017 letter, a copy of which has been reviewed by ValueWalk, Hall explains that his forecast is based on fundamental oil data, which he notes is sometimes not available in a timely fashion and when it is available is often “subject to extensive revision for months, if not years, after the event.” He goes on to proclaim in a subsection titled “ALTERNATIVE FACTS – THE FOG OF DATA” that unfortunately, due to this data lag, it is often the case that “many market observers and commentators appear to ignore” later revisions and “market moving headlines often appear based on spurious data being given gravity they do not merit” AKA “fake news”. The latest example of this media misrepresentation according to the oil trader is GPS tanker tracking data. Currently being used to estimate imports and exports in real time, Hall cautions that this data should not be relied on for day-to-day updates as, in his experience, the information is subject to large revisions over time.
The media’s misunderstanding of oil market intricacies is just one of the six reasons why Hall believes that the oil price is not accurately representing the underlying fundamentals of the oil market.
Higher US oil production is probably the largest factor weighing on prices, but Hall argues that the impact of this has been overstated as the market has “lost its patience” waiting for inventories to fall, instead relying on more unpredictable data. The result is that oil prices have fallen despite the fact that inventories are declining – something he argues the market is missing thanks to the media bias:
“Investors who were expecting higher prices have fled, leaving the market at the mercy of short sellers and algorithmic trading systems. Ironically, this capitulation has occurred at the very moment when inventories in the U.S. are starting to fall rapidly. Unless demand growth has completely evaporated – which seems improbable given generally encouraging global economic indicators – oil inventories should fall over the balance of 2017 at a rate of between 1 and 1.5 million bpd. Crude oil inventories typically fall in the U.S. by 30 – 40 million bbls from June through August. This year the rate could be significantly greater.”
According to Astenbeck’s research oil inventories are also falling rapidly outside the US, signaling a global tightening of oil supplies:
“Our own analysis indicates that, after surging in January, global inventories have been falling counter seasonally for the past 4 months. In May, based on partial and preliminary data, commercial oil inventories globally appear to have fallen by around 1 million bpd. This compares to an almost 2 million bpd stock build seen for May on average in the past 5 years. However, so far, the cumulative declines this year have occurred outside the OECD, with floating storage and entrepot facilities accounting for the bulk of the fall. This should change as we head into peak demand season.”
And even if US shale production does ramp up to add 1 million barrels of supply today into the global market, Hall and his team believe that there is enough supply in the market to absorb this supply, plus that of OPEC and non-OPEC nations without leading to a rise in inventories.
“Assuming rig counts grow by around 20 rigs per month through the balance of the year and continued growth in rig productivity at a rate of 5 to 10 percent per annum, U.S. Lower 48 (ex-Gulf of Mexico) looks set to grow by around 1 million bpd in 2018 versus 2017, according to our model and others that we look at and feel are using reasonable assumptions. That sort of growth is readily absorbable on most reasonable assumptions. Global demand growth next year should be more than 1.5 million bpd. The flow deficit (the difference between supply and demand before changes in inventories) in 2017 is around 1 million bpd. That means we can see supply grow next year by 2.5 million bpd and have no change in inventories. Non-OPEC production (other than U.S. shale) is expected to grow by 1 million bpd. That would leave room for OPEC production to grow by 0.5 million bpd”
All of the above Hall concludes, should drive higher oil prices during the second half as demand continues to increase, inventories fall and supply growth remains subdued.
The one element the letter does not touch on is the current diplomatic spat between Qatar and its Middle Eastern allies, as predicted many years ago by us. So far this falling out has had little impact on the oil price. While Qatar is a member of OPEC, it is relatively insignificant in the grand scheme of things pumping 620,000 barrels of oil per day during May, around 0.6% of total world production according to Bloomberg. Still, the main concern among Wall Street analysts is that the decision by Saudi Arabia, the United Arab Emirates, Egypt and Bahrain to cut off Qatar is that it will undo OPEC’s efforts to cap production and oil output growth. As of yet, analysts have not put out a detailed research on how the deal might fall apart and what repercussions it might have for markets.