For the past two years, analysts have continually predicted the death of the traditional oil industry as, thanks to new technology, the US shale oil industry grabs market share.
However, despite shale’s early success, it now looks as if the industry is struggling to keep up with demand.
Thanks to rising oil demand, and OPEC’s efforts to curtail supply, comparative inventory (C.I.) has been dramatically reduced in 2017 with levels falling by 159 million barrels since February. Inventory levels are now approaching the five-year average for the first time in nearly three years.
Oil Market Deficit Is Back
According to analysts at Morgan Stanley, over the last 30 weeks, US crude inventories have drawn at their fastest rate in 35 years. To ensure that the market supply meets demand, the analysts project that US shale will need to produce 7.0 mb/d in 2018 to balance the market, that's up from an earlier projection of 6.6 mb/d assuming OPEC's supply agreement remains in place through 2018.
It looks as if the oil market may turn out to be undersupplied next year according to Morgan's figures, which is excellent news for prices and should stimulate a rapid response from shale operators:
"In 2017, we estimate that the global oil market is ~0.2 mb/d under-supplied. Assuming demand growth of 1.5 mb/d in 2018 - a slight slowdown from 2017 - supply would need to grow 1.7 mb/d from 2017 levels to achieve balance. Assuming the OPEC/non-OPEC agreement is extended to end-2018, which is now our base case, we estimate that OPEC and Russia combined will not deliver more than 0.2 mb/d of this. We still assume 0.3 mb/d of growth from other countries (includingnon-shale US) and NGLs, leaving growth of 1.2 mb/d to be satisfied by US shale."
However, despite these projections, rig activity is actually falling:
"Over the last 12 weeks, the US oil-directed rig count has fallen by 5%, from 768 in mid-August to 729 rigs currently - a decline of 14 rigs per month. Not all these rigs are focused on US shale. Rigs in shale basins have fallen more slowly, by ~24 rigs over this period. Yet, that number of active drilling rigs is unlikely to deliver sufficient production in 2018, and certainly not if the recent downward trend continues."
Considering these factors, Morgan's analysts are forecasting an average oil price of $63/bbl through 2018:
"If US shale produces 6.8 mb/d vs a ‘call’ of 7.0 mb/d, then inventories will still draw 0.2mb/d throughout 2018 on average. This will get us to OECD inventories, in days-of demand cover, that are a couple of percent below the 3-year average. Using this historic relationship, this has historically driven front-month Brent about 5% above 12-month forward Brent, i.e. $63/bbl."