Expected economic recovery has oil bulls dreaming big

Source: www.producer.com

Crude oil prices are recovering as global economies rebound from COVID-19 disruptions and a few ultra-bulls are talking of the potential to see peaks of US$100 per barrel in the next few years.

That would raise farm diesel costs, but also lift ethanol and biodiesel values, which would in turn support crop prices.

Of course crop markets are already spectacular.

On Feb. 24, March canola futures touched for an oh-so-brief moment in overnight trade a record C$852.10 per tonne or $19.33 cents a bushel.

Canola retreated, as did other crops, in the following days on signs high prices were rationing demand.

Crop prices could again surge as users compete for short supply before harvest and strong oil would be wind in the sails of new crop prices.

Supported by disruptions from the Texas freeze, benchmark Brent May futures topped US$66 per barrel last week, a level not seen since before the COVID-19 breakout.

It was a far cry from the day in April 2020 when futures fell below zero as oil surpluses overwhelmed storage space.

Since then, a wave of oil company losses, bankruptcies and tight capital forced North American production cuts.

Also the Organization of Petroleum Exporting Countries and their allies, known as OPEC+, in April agreed to cut output by 9.7 million barrels per day.

That ended a price war between Saudi Arabia and Russia. Russia had rejected production cuts, hoping low prices would drive United States shale oil producers out of business.

Today, the picture is different.

The almost miraculous speed in developing, approving and rolling out vaccines means most people in developed countries will be inoculated by the end of summer, allowing relaxation in COVID restrictions.

The U.S. government and other countries are earmarking trillions of dollars for recovery and economic stimulation.

Analysts now expect booming economic growth in the second half of the year and beyond that will lift oil demand and prices.

Investment bank Goldman Sachs is among the most bullish. Last week it lifted its Brent crude forecast to $75 per barrel by the third quarter, up $10. Bank of America sees Brent at $70 in the second quarter and Morgan Stanley sees $70 in the third quarter.

Bank of America is more bullish longer term, forecasting occasional spikes to $100 over the next five years.

But that is not the consensus view. A Bloomberg survey of analysts shows a median forecast of less than $65 through 2025.

Ultimately, the sustainability of the oil rally depends on the speed of demand growth and whether oil production can keep up.

Production increases in some commodities such as copper are slow because it takes time to expand or build a mine.

But with oil, the timeline is shorter, particularly now when so much existing capacity is curtailed.

In addition to the OPEC+ production cuts, Saudi Arabia this January unilaterally cut output by an additional million barrels per day for February and March. OPEC+ meets March 4 and Russia will again push to restore production to keep American producers at a disadvantage, while the Saudis will use their million barrel cut as leverage to convince members to follow a gradual rebuilding.

Goldman Sachs argues that even if they agree to rebuild, production would lag behind demand growth.

Another potential source of more oil is Iran, which hopes to convince the new U.S. administration of Joe Biden to rejoin talks over its nuclear program and lift sanctions on its oil exports that the Trump administration levied. But given continued Washington-Tehran tensions, oil bulls think this too will likely take time.

Also sustained $60 to $70 oil would get more North American oil and gas rigs back operating.

But after the huge financial losses and bankruptcies of the last year it will take time to woo investors and lenders back to provide the cash needed for the constant drilling required in shale oil fields like the Bakken in the northern plains and the Permian and Eagle Ford basins in Texas.

The Alberta government’s curtailment of oilsands production, created to address price-killing surpluses caused by congestion on export pipelines, has ended. Existing oil sands producers don’t need the constant inflow of new capital that shale producers do, but increased output from the resource requires new pipeline capacity.

The industry was disappointed that the Biden administration stopped the Keystone Pipeline but work on the Trans Mountain Pipeline to the West Coast continues.

All in all, I think there is a convincing argument that oil will remain in the $60-$70 range to stimulate production to chase reviving economic growth but any peaks higher will face huge international opposition because they would derail the post COVID recovery.