Crude prices get severely hit! The world suffers!

Crude Oil prices drop BigOption Blogfalt

Crude prices have been severely hit by oversupply in the crude market and prices have fallen to their lowest since mid-2014. The world shall drown in oil in 2016, according to International Energy Agency. What exactly has triggered this sudden downfall?

Crude prices fell in previous years but the sudden depreciation of prices since the mid of 2014 was not anticipated as such. Currently crude prices have fallen below the handle of $30 a barrel. Investors are now apprehensive and expect further slides in crude prices. The increase of supply and a weak demand will weigh on prices, bringing more strain on the system to cope. Changing trends, volatile markets, and crude prices’ uncertainty, all these are taking the world by storm. Let us peep into the inside story of this phenomenon.

A retrospective

Official reports show that production from non-OPEC (Organization of petroleum exporting countries) countries will fall by 600,000 barrels a day this year. However, crude prices have been low before but no one expected a fall of this magnitude. Over the years, crude prices have highly fluctuated as shown in the table below.

From 1946 to 2007, crude oil prices traded from $19.41 a barrel to $72.98 a barrel.

The table below shows a quarterly (3months) extract of crude prices from 2012 to 2014

  Jan - Mar Apr - June July - Sept Oct - Nov
2012 $95.54 - $100.92 $97.60 - $76.48 $82.90 - $89.68 $84.25 - $83.53
2013 $89.88 - $87.47 $86.14 - $89.13 $98.82 - $100.24 $94.72 - $92.10
2014 $88.65 - $93.59 $94.82 - $97.26 $94.61 - $85.38 Prices begin to fluctuate

Table 1: Extract of crude prices on a quarterly basis from 2012 - to mid 2014

Looking back in time, crude prices have been quoted since the year 1946 and notice that prices were extremely low in those times, standing around $19.41 a barrel. For years, prices were quoted around the same price, but with the evolution of technology and the modernity of times, the worth of crude has now increased on the market. Prices dropping to a whopping $28 a barrel is now inconceivable. Yet, the phenomenon is back, prices are dipping as low as you can think of and may further shed gains.

The oversupply

An overabundance in the crude market is now a sure thing since weakening demand cannot fight a growing oversupply on the market. Surely, for consumers, low prices of crude is a welcoming factor, since it increased their purchasing power and at the same time many companies’ costs were cut down. This bright side of crude falling prices hides a hideous side of it. The ugly death spiral of crude prices is deemed as a ticking time bomb, which has no exact outcome. However, analysts attribute this fall to simple economics of demand and supply.

Over the years, domestic crude production doubled in the United-States which resulted into a decrease in U.S. oil imports. So what happened to the crude that needed to be bought by the U.S.?

crude prices on a quarterly basis from 2012 – to mid 2014 on BigOption

Image 1: U.S. turns down crude imports - oversupply over the world

The resilience of U.S. shale industries increased U.S. crude production and aided the country to sustain against external competitive factors. Though many thought that this industry would soon begin to fade away, recently Daniel Yergin stated that the U.S. shale production will resist. During the world economic forum 2016 held in Davos, Daniel Yergin who is the founder of IHS Cambridge Energy Research Associates, added that OPEC cannot knock out the U.S. shale industry so easily. He quoted:

"It takes $10bn and five to ten years to launch a deep-water project. It takes $10m and just 20 days to drill for shale."

Source: The Telegraph www.telegragh.co.uk/finance

U.S. is now solely dependent on its shale production, thus rejecting imports of oil in other oil producing countries. For that matter, that excess of crude goes back to the existing supply of oil on the market. The amount of crude that U.S. rejects is extremely huge which accounts for the oversupply of crude on the market.

Therefore, oil-producing countries like the Saudi, Nigeria and Algeria, which once sold their crude to the U.S., now have their excess of crude pending on the market. They look for buyers. All of a sudden, these countries compete to sell on the Asian markets and are compelled to drop their prices. A rise in crude production was also seen in Canada as well as Iraq, and now that Iran will make its imminent comeback to the crude market, this will add to woes of an already oversupplied market.

Who else is rejecting the crude?

Investment, from what can be deduced, poses a threat to the existing crude producing countries. Developed and developing countries have started to show a weak sign of demand of crude, from the past year. This has resulted from growing uncertainties of a weakening economy. Taking Europe as an example: many countries in the Eurozone are becoming energy efficient. Thus, more cars are being rendered energy prone, therefore translating into a poor demand for crude.

U.S. turns down crude imports - BigOption

Image 2: Cars go energy efficient

The winners

Obviously, not everybody will lose from this fall of crude price as consumers, basically from lower incomes are the beneficiaries to this effect. Many households that use heating oil, for example, benefit from the saddening fate of crude. On the same wavelength, latest drop in energy prices has brought a smile to millions of people due to the drop in gas price as well. Also, since fuel prices have dropped a whopping low level, a lot of people with limited earnings now experience relief as they allocate less money for fuel.

China the biggest crude consumer

Obviously, not everybody will lose from this fall of crude price as consumers, basically from lower incomes are the beneficiaries to this effect. Many households that use heating oil, for example, benefit from the saddening fate of crude. On the same wavelength, latest drop in energy prices has brought a smile to millions of people due to the drop in gas price as well. Also, since fuel prices have dropped a whopping low level, a lot of people with limited earnings now experience relief as they allocate less money for fuel.

Amidst a slowing economy, China remains the world’s top crude importer and plays an integral role in the crude industry. On January 25th this year, China announced that it is getting ready to grant four non-major oil refineries licenses to import crude. These companies have been allocated quotas to use imported crude oil, but what plays most on the mind of investors is that China’s crude oil imports hit a record of 7.82 million barrels a day in the month of December 2015. Taking advantage of lower crude prices, China filled its crude bank by increasing its import capacity for the said month. Demand for crude in China is set to increase by 4.9 percent for the year 2016.

Going deeper into the matter, OPEC refused to cut down on production therefore playing a vital role in bringing oil prices further down. Opinions here divert, since investors have a slightly unbalanced idea of the whole outcome on China. The world’s second largest economy is currently going through a painful economic slowdown for which it also had to depreciate the value of the Yuan. The trouble became more pertinent when China’s credit growth accumulated. However a pivotal demand for crude in China remains eyecatching.

In fact, China’s entry in World Trade Organization at the beginning of the last decade, raised eyebrows. With time, China transformed itself into a main catalyst in growth of crude oil demand. China was then regarded as a main source to have triggered oil price from $20 a barrel to $100 a barrel. China’s crude demand alone is equivalent to the total oil consumption of Japan and UK. However, a deeper analysis of this situation shows that China’s capacity to consume crude may become a constraint, as the country already suffers from a slow recession.

Since China invests a lot in energy production, some corporate casualties may crop up with a lingering fall in oil and energy prices. Cheaper oil in China may enlarge deflation across China which in turn would impact on Chinese currency and interest rates.

The plight of stocks

Around 40 companies in the North America are now secured in the bankruptcy protection zone. Other imminent companies such as the BP, Chevron and Royal Dutch Shell are cutting down on job payrolls in order to save cash.

cars go energy efficient - BigOption Blog

Big companies like these are taking drastic steps, now imagine the plight of smaller independent oil and gas producing companies. They have now started splashing their dividends and selling their assets with reportedly more losses.

The Bottom line

The once glorious oil industry today seem at its worst. All the elements discussed somewhat contribute to the downfall of the crude prices. However, though some optimism was seen for this week, prices are deemed to go back under $30 a barrel. All we need to do is a careful research and keep watching trends with the hope that this industry soon finds a brighter dawn.

Warren Tancredi By: Warren Tancredi
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