Record Russian Output Forecast, Rising US Production and Iraqi Compliance Concerns Point to Huge Oil Inventory Increases Later This Year

Wednesday January 18, 2017

An increasingly familiar market scenario played out Tuesday, with initial crude gains being mitigated by news of rising oil production – this time by Russia and the U.S., which caused Brent and West Texas Intermediate to settle respectively at $55.48 (down 38 cents) and $52.48 (up 11 cents), after earlier climbing by $1.

According to a new Reuters poll of analysts and consultants, Russian oil production is expected to reach another post-Soviet record high in June of 2017 after the expiry of the Organization of the Petroleum Exporting Countries' (OPEC) deal to cut output expires.

Most of the experts doubt the deal will be renewed despite what many of its participants – including main booster Saudi Arabia – have repeatedly suggested; and they think as a result Russian production will rise to an average of 11.054 million barrels per day (bpd) from 2016's 10.96 million bpd (for the record Russia's energy ministry predicts a rise to 11.07 million bpd this year).

Plus, the growth won't likely stop, given that Russia's output has increased yearly since 1998: "By December, Russian oil production will have reached new record levels, setting the scene for further increases in 2018, supported by a higher oil price," said Christian Boermel, a research analyst at Wood Mackenzie.

This sobering news is augmented by data released Tuesday from the U.S. Energy Information Administration showing that American shale production is expected to rise by 41,000 bpd in February to 4.748 million bpd, as energy firms take advantage of crude prices approaching 18-month highs.

Permian output in West Texas and eastern New Mexico alone is set to rise by 53,000 bpd to 2.180 million bpd next month.

Meanwhile, when asked by CNBC if the OPEC deal is working, Helima Croft, global head of commodity strategy at RBC Capital Markets, replied that "the big question mark" is "what Iraqi numbers look like," a question that will presumably be answered at the upcoming compliance meeting in Vienna: "Iraq is taking the second largest hit, they did not want to be a part of this deal ... and there are real concerns about Iraqi compliance."

Croft added that global inventory levels remain "loaded" despite the onset of the cutbacks.

But although these diverse reports combine to give the overall impression that global output will be more intense than ever despite the hoopla over the OPEC cuts, the market didn't drop as much on Tuesday as many would have expected, and this caused Phil Davis, managing partner at PSW Investments, to warn that "The oil market is actually weaker than it looks because it is being propped up by the weak dollar."

The prospect of having to face massive output increases so soon flies directly in the face of messages issued last week by attendees of the Atlantic Council Global Energy Forum in Abu Dhabi, a typical observation being that of Fatih Birol, executive director of the International Energy Agency, who said a "significant" supply-demand gap is possible in as early as three years.