Crude Oil prices are yet reach a floor

Crude Oil prices are yet reach a floor

By: Darryl Frankfort | Where To Trade | On:16-10-2014 09:58
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Key Highlights

  • Bearish oil prices yet to find support
  • Increasing supply capacity
  • Macroeconomic Causes of low demand
  • OPEC’s oversupply situation
  • Challenges to the Saudi Strategy

 

Crude Oil

Yesterday light and sweet crude oil future prices for December 14 touched the $80 price. This represents an over $20 fall from the 106 price levels Crude oil was commanding back in June. Net long positions in the future market have been cut by over 50% showing the bearish outlook the market has taken on oil prices. Traders who are not already short are looking for the best entry for a short position while avoiding buying at the troughs. Meanwhile, the prices have met some significant resistance at the $79-$80 zone with the buyers betting that the prices have reached a floor. But is 79 a realistic floor for crude oil prices?

We link the sharp fall in oil prices with the current oversupply situation taking shape. For a long time OPEC has been able to support the oil prices by dictating prices via limiting the supply of oil. Members of OPEC, who represent over 80% of the world oil production, adhere to quotas in order to keep a cap on supply. OPEC has been keeping a production cap of 30 million barrels per day. However this production limit only applies to OPEC members. Last year OPEC alluded to the fact that supply will exceed demand by about 300million barrels a day worldwide.

 

Excessive supply

The US now supersedes Saudi Arabia as the top Oil and gas producer in the world and is expected to remain at the top in the coming quarters. Since 2006 The US has been steadily increasing its oil production activities in North Dakota and Texas. The net US oil production is as high as it was in the 1960s. The US has cut its imported Oil by over 25% Last year alone, currently only 33% percent of its required oil is imported. Simultaneously, the production grew in the US from 7.4 million barrels per day to 8.5 million barrels per day. The production methods Used are estimated to have a breakeven price at about $62 per barrel. We can use this as our absolute floor of where to buy at if nothing significant changes

 

. Where To Trade - US Crude Oil and Liquid Fuels Production

The challenge facing OPEC is whether to reduce the cap on supply of to contend with lower prices. Saudi Arabia which controls a large quota in OPEC has expressed that it would rather see the prices lower than have a reduction in quota. Historically OPEC has tried to maintain the $100 per barrel as the average. Saudi Arabia and other OPEC members have to contend with price wars among their remaining buyers as the   US becomes more oil sufficient. Keeping in mind that the US net imported oil is forecasted to fall further to 20% in 2015, it becomes more plausible that the Oil price will keep falling unless OPEC reduces its supply.  Of course a reduction in quotas is a touchy subject among the members and any discussions on this are unlikely to be fruitful in the short term.

 

Where To Trade - US Import

 

Putting it all together

The Oversupply situation is likely to last in the next few weeks. We anticipate that the crude oil prices will continue to show a bearish bias until the OPEC meets and decides to remedy the situation. The next OPEC meeting is scheduled in November and this gives us a good time frame to remain short. However an emergency meeting can be held to discuss the situation and this would see the oil prices become volatile we must watch out for this.

The likely hood that any meaningful resolution will be arrived at is very small especially taking the challengingly competitive spirit the members are likely to find themselves in. We are likely to find support well below the current levels. A great trading approach under these conditions is to have a bearish bias in your crude oil trades until November.

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