Has oil hit a ‘sweet spot’ for the global economy?

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Crude oil pipeline
Crude oil pipeline

Analysts believe prices need to rise to $60 or $65 before excess production returns

It was a significant milestone that the ongoing rally had built up enough steam to get over the psychologically important threshold this week.

But concerns over supply still worry investors and international benchmark Brent crude, having hit a new 2016 intraday high of more than $50.50 a barrel yesterday, fell back to a little more than $49 a barrel in London this morning.

“The global surplus still exists and there is still a possibility that oil prices could retrace further,” Dominick Chirichella, a senior partner at the Energy Management Institute in New York, told Reuters.

Jim Ritterbusch, of Chicago-based oil markets consultancy Ritterbusch & Associates, said: “We are viewing current risk/reward ratios as unfavorable toward new longs [bets on higher prices] at current levels.” He cites a potential drop of Brent to $47.50.

In truth, prices have been caught in a narrow range of $48 to $50 for the past two weeks. Production outages in Nigeria, Canada and Iraq have boosted a more bullish view of the global oversupply situation, but pledges by Saudi Arabia and Iran that they will continue to ramp up output offer a bearish counterweight.

Perhaps more pertinently, there are those who believe the break above $50 could encourage more drilling, especially in the US shale sector, and that this will eventually send prices spiralling down again.

An alternative view is that current prices are something of a “Goldilocks” scenario, says the Wall Street Journal, with $50 oil a “sweet spot for the global economy”. It believes this level provides enough succour for producer nations and companies, without encouraging renewed supply, and is sufficiently low to boost the global economy.

“Prices in the $50 to $60 range would be high enough to ease some of the pressure on producers, while still low enough to boost spending on other goods and services,” Julian Jessop, the chief global economist at Capital Economics, said.

The WSJ adds that $50 oil could be a “red herring” and that the real price level to watch out for is between $60 and $65.

If current trends persist, says Citigroup, there is a chance this could be possible by the end of next year.

For the first time this year, oil has broken the $50 level – and had stayed a shade above the psychologically important threshold at around 10am in London trading this morning.

Brent crude touched as high as $50.13 a barrel in the overnight Asian session before pulling back slightly. Its US counterpart, West Texas Intermediate, was 0.6 per cent higher this morning, to within 40 cents of the $50 barrier.

Spurring this latest upswing was data yesterday from the US Energy Information Administration, which confirmed a big draw on US crude oil stocks last week as global supply outages hit imports. The watchdog reckons previously record reserves fell by around 4.2 million barrels, reports the Financial Times.

A number of pipelines in Nigeria have been affected by sabotage attacks, while the effects of wildfires are still being felt in Canada and bad weather and power outages, among other issues, has seen production in Iraq fall from record levels earlier this year.

Now oil has finally broken through $50 – after flirting with the threshold for two weeks – there is growing confidence that a steady price rally might be sustained through to the end of 2017.

Energy giant BP has revised up its price assumption for next year to between $50 and $55, says the BBC, while earlier this month, previously bearish Goldman Sachs brokers said prices should remain around $50 for the rest of this year and rise to $60 a barrel by the end of next.

Citigroup analysts have gone further and said crude stocks could fall for a concerted period and that prices could be as high as $65 a barrel by the end of 2017.

There remains a high degree of caution in these estimates, however. Citi, for example, told the Wall Street Journal it has only “65 per cent or so confidence in this price path” as it is concerned by the prospect of new production coming online as prices rise from $50 to $60. It reckons as much as 400,000 of shale oil output in the US could return to the market.

Indeed, the FT notes that Pioneer Natural Resources, a leading independent producer, said last month that it would add drilling rigs if the oil price was above $50 in 2017 and inventories were declining.

Source: theweek.co.uk

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