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Feast Or Famine? Oil Market In 2018


“Behold, there come seven years of great plenty throughout all the land of Egypt: and there shall arise after them seven years of famine; and all the plenty shall be forgotten.”

In the Bible, Joseph was interpreting Pharaoh’s dream of seven fat and seven thin cows, but he might have been talking about the oil market (“Genesis”, chapter 41, verses 29-30).

Just as Pharaoh’s kingdom experienced a cycle of feast and famine, depending on the Nile inundation, the oil market swings between periods of undersupply and oversupply.

“The problem of oil is that there is always too much or too little,” as Myron Watkins, professor of economics at New York University, wrote 80 years ago (“Oil: stabilization or conservation?” Watkins, 1937).

Ancient Egypt’s food supply was alternately plentiful or scarce, but only rarely “just enough”, which is why the state had granaries to store excess from the good harvests to cover the poor ones.

The oil market, too, carries stocks from periods of oversupply to periods of undersupply, and cycles regularly from contango to backwardation as it does so.

The natural state of the oil market is not just enough, any more than the natural state of Pharaoh’s food supply was just enough.

OPEC and other commentators, including myself, characterise the process of restricting oil production and reducing excess stocks as one of market “rebalancing”.

But while rebalancing is useful shorthand for a complicated set of adjustments to production, consumption and stocks, it does not imply the process ends with a “balanced” oil market.

The oil market is rarely balanced, and never for very long.

In the past, periods of oversupply and contango were swiftly followed by a return to undersupply and backwardation (

Something similar appears to be underway at present, with Brent and other international crude grades moving into backwardation over the last three months, after trading in contango since the middle of 2014.

Most analysts have expressed concern about the re-emergence of oversupply, a renewed rise in crude stocks, and how OPEC and its allies will exit from their current production deal in 2018.

But it is at least possible the market is moving towards a period of undersupply, when demand will be growing strongly, supply will be lagging, and stocks will feel uncomfortably tight.

Positive Feedback

Oil prices rarely adjust smoothly to changes in production or consumption (“Essentials of petroleum: a key to oil economics”, Frankel, 1946).

The relationships between production, consumption, stocks and prices are characterised by circular causal or feedback processes (“Cybernetics, or command and control in the animal and the human”, Wiener, 1948).

Some of these processes are stabilising and tend to dampen the original disturbance (“negative feedback”), but others are destabilising and tend to amplify the initial shock (“positive feedback”).

Positive feedback processes can cause a lot of instability in the short and medium term. During the oil market downturn between 2014 and 2016, positive feedback made the slump much worse and delayed rebalancing.

On the supply side, for example, the slump led to a fall in the price of labour, raw materials and service contracts, which damped producers’ response to lower prices (

On the demand side, recessions in oil-producing countries as well as the slump in drilling and the slowdown in global freight, all reduced oil consumption, especially of diesel, exacerbating the oversupply.

But positive feedback cuts both ways. Just as it made the slump deeper and longer, it is likely to accelerate and amplify the upturn.

Oil market rebalancing is likely to see a rise in costs as well as faster growth in consumption from oil-producing countries and an acceleration in freight.

In the oil market, like Pharaoh’s Egypt, everything tends to go right (or wrong) at the same time, causing violent swings in the commodity cycle.

Upturn Elements

The ingredients for a cyclical upturn in the oil market in 2018 and 2019 are all present.

The major global economies are experiencing the strongest synchronised expansion for a decade and world trade volumes are growing at the fastest rate since 2011.

The combination of a broad global expansion and relatively low oil prices has produced a surge in oil demand, with consumption growing faster than the long-term average over the last three years.

Global oil consumption is predicted to increase by 1.6 million barrels per day in 2017 after growing by 1.3 million bpd in 2016 and 1.9 million bpd in 2015, according to the International Energy Agency.

Oil consumption is forecast to increase by another 1.4 million bpd in 2018, the IEA says (“Oil Market Report”, IEA, September 2017).

Global crude and product stocks are now drawing down rapidly owing to a combination of strong demand and supply restraint by Saudi Arabia.

Stocks are still above the five-year average, but converging towards it, and the five-year average is likely to prove too low given the prodigious growth in consumption since 2012.

The critical question is how quickly producers will respond to strengthening demand and tightening oil inventories.

With most producers already operating near full capacity, most output growth over the next two years will have to come from Saudi Arabia (and its close ally Kuwait), conflict-torn countries in Africa, or the U.S. shale sector.

Saudi Arabia has spare capacity, but will likely want higher prices before increasing its supply to the market, especially with the partial floatation of Aramco drawing nearer.

Nigeria and Libya also have spare capacity but the poor security situation in both countries makes future production increases highly uncertain.

U.S. shale producers can increase production, but their costs are rising, and they are coming under mounting pressure from shareholders to focus on improving returns rather than growing output.

What Next?

A range of scenarios is possible for the oil market in 2018/19:

  • The rise in prices and move to backwardation could fizzle out if compliance with the OPEC production agreement declines and U.S. shale output rises rapidly, overwhelming demand growth.
  • Prices and calendar spreads could remain rangebound, if OPEC exits its agreement smoothly and the rise in shale output matches the growth in demand.
  • It is at least possible that prices will rise further and the backwardation will deepen if consumption growth outstrips supply and stocks continue to fall.

Many analysts and traders have backward-looking expectations, assuming the future will resemble the immediate past, which is why they tend to miss turning points.

Expectations were much too bullish after the boom years of 2011-2014, which is why many analysts and traders missed the impending slump, and then underestimated its depth and duration.

But it is arguable expectations have become too bearish in the aftermath of the slump and traders are now underestimating the prospects for recovery.

Of course, it’s always possible the market will have just enough supply, with shale and OPEC adjusting smoothly to match the increase in demand.

But if I were advising Pharaoh, I wouldn’t tell him to bet on it.


12 Comments on "Feast Or Famine? Oil Market In 2018"

  1. rockman on Wed, 11th Oct 2017 12:25 am 

    Supply never exceeds demand: as a rule companies don’t produce oil they can’t sell. Remember any oil that goes into long term storage is oil that is BOUGHT by someone from a producer. As explained before if a producer can deliver more oil then it has buyers it simply produces less. IOW why would a company spend operations money to produce oil he then has to pay to store.

    Every bbl of oil produced today has been bought by someone. That is not an oversupply situation. The confusion comes from less oil being CONSUMED by end users then is being SOLD by producers. Then it becomes a game of semantics: is someone buying oil and sending it to storage an oil “consumer”?

    From the perspective of a producer it makes no difference if its production ends up in a refinery, an anchored tanker or sitting in Cushing: it has sold its oil. From the perspective of the consumers and the refineries that supply them any oil going into storage does put some upward pressure on prices since those buyers represent competition. But difficult to quantify that effect.

    According to the EIA for several years prior to the price collapse US storage averaged around 350 million bbls and today stands at 540 million bbls. Or an increase of 190 million bbls between Jan 2015 to Sept 201u7:

    Which seems like a lot. But during that period US production + imports = 17.8 BILLION BBLS that moved through the system. IOW about 1% of the throughput was diverted to storage. Opinions will vary but mine is that removing 1% of the from the dynamic did almost nothing to increase the price of oil.

    And the other side of the balance sheet: 99% of the oil in the system during those 33 months as storage volumes increased was refined and consumed by end users. Again opinions with vary but mine is that there has been no oversupply of oil to the market place. And remember even that 1% that went into storage was bought from the producers.

    Folks love to toss around “over supply”, “under supply”, “unbalanced”, etc. without actually supply the full numerical picture like offered above. The favorite go-to “proof” is the change in storage volumes. As the example above for the US shows the numbers don’t seem nearly as dramatic as some of the rhetoric.

    Often the market balance rhetoric seems to be offered as a way of explaining oil prices. As explained many times oil prices are set by the refineries. And the refineries estimate that price based on their projection of what consumers will pay for their products. If refineries thought consumers would be willing to buy significant volumes at a higher price in the near future each would be trying to get contracts for more oil. And that would lead to increased price competition amongst them.

    Or to condense all those thoughts into a very simple concept: the price consumers will pay for refinery products is a function of their economy’s vitality and thus their ability to pay higher prices. Refineries would not have paid $100/bbl for oil a few years ago if the global economy couldn’t pay the subsequent high price for those products.

    Which is why the market is essentially always balanced: oil pricing forces it to be in balance.

  2. Boat on Wed, 11th Oct 2017 5:07 am 


    ” IOW why would a company spend operations money to produce oil he then has to pay to store”.

    Supply and demand. Just a few weeks of refinery hurricane problems caused oil storage to move higher. That small amount of extra stored oil caused WTI to drop $5-$6 compared to brent. Just the way it is.

  3. GregT on Wed, 11th Oct 2017 2:21 pm 


    WTF does what you just said, in any way have to do with what the Rockman said above?

  4. Boat on Wed, 11th Oct 2017 2:48 pm 


    You have no clue. I get that. You’re a racist, No clue as to why.

  5. rockman on Wed, 11th Oct 2017 2:54 pm 

    “IOW why would a company spend operations money to produce oil and then has to pay to store…” Supply and demand”.

    That’s why a SPECULATOR would pay to store oil. A producer would reap the benefit of higher prices without storing oil. Remember the post about Vitol just the other day. They DO NOT PRODUCE one bbl of oil. But they are the largest oil TRADER on the planet… upwards of 7 million bbls/day purchased daily. Which also means they are one of the biggest SUPPLIERS of oil to the world’s refineries. IOW it ain’t ExxonMobil or Shell Oil. Vitol could reap huge financial rewards by an uptick in the market. And to repeat what I said before: very little oil is sold by producers to the refineries. They buy oil from Vitol et al.

    Folks need to remember that the price of WTI tossed around is not the price producers get from oil traders like Vitol. Nor is it the price Vitol sells a bbl of blended oil from its storage tanks to a refinery. It’s the price being bid for futures contracts. If there’s a surge in refinery demand that pushes oil prices up a bit there’s no reason to expect a company like Vitol to pay more to the producers it buys oil from. It simply sells more of its stored BLENDED OIL at the higher price to satisfy the increased refinery demand.

    Folks ramble on and on about the per bbl profits made (or not made) by oil PRODUCERS. They typically have no clue how huge the profits made by the OIL TRADERS might be. Remember over the years Vitol has probably made $BILLIONS in profits selling BLENDED OIL that included shale production.

    And Vitol has never invested one f*cking $ drilling any shale wells. LOL.

    There is a huge portion of the petroleum industry that dominates the entire supply/price dynamic that very few folks are aware even exists. And yet they dominate the oil storage dynamic that many think they understand so well. And for good reason: they don’t really care to have the public know.

    Point of proof: at the end of Sept there were 62 million bbls of oil stored at Cushing, OK, the largest storage facility on the planet. Name the 5 largest owners of that oil.

    BTW Cushing is the largest storage facility because it is the largest BLENDING faculty.

  6. Boat on Wed, 11th Oct 2017 3:24 pm 

    Point of proof: at the end of Sept there were 62 million bbls of oil stored at Cushing, OK, the largest storage facility on the planet. Name the 5 largest owners of that oil.

  7. GregT on Wed, 11th Oct 2017 8:29 pm 

    ” You’re a racist, No clue as to why.”

    Not surprising Boat. You’re obviously clueless about pretty much everything.

  8. malahmadi on Wed, 11th Oct 2017 9:00 pm 

    The problem with conventional oil has always been the LAG-TIME which causes price cycles.

    With the current demand and tight oil supply capability, I expect tightening of the market in 3 to 4 years.

  9. rockman on Thu, 12th Oct 2017 12:16 am 

    Boat – Excellent job, buddy. That’s the very same link I had pulled up. To save folks the trouble:

    Enbridge is the largest owner of oil stored at Cushing: 15.7 million bbls. And Enbridge has NEVER drilled a single well. They are primarily a pipeline company. And, oddly enough, has a fairly good size footprint in wind power: Texas and offshore Germany. Other big owners are Semgroup, Plains All American Pipeline and Teppco. None of them drill either… “midstream” companies. IOW pipeline companies. Some operators, like BP and Conoco Phillips have oil stored at Cushing. But those companies also have oil trading companies so much if not all of the oil they store at Cushing was purchased from other producers or other oil trading companies.

    It should not be a surprise that most of the oil stored at Cushing belongs to pipeline companies. IOW the only way for oil to get from local oil gathering terminals to Cushing or from Cushing to the refineries is by major regional pipelines. Does Keystone sound familiar? LOL. Those companies have absolute control over the movement of oil from the wellhead to the refineries.

    But remember what the original point was: it is not the oil PRODUCERS who are storing the vast majority of oil in this country. It is the pipelines and oil trading companies. That oil was originally PURCHASED from producers. IOW there is no glut: producers are able to sell every bbl they choose to.

  10. rockman on Thu, 12th Oct 2017 12:20 am 

    m – “I expect tightening of the market in 3 to 4 years.” Which would imply higher oil prices at that time. Be careful, buddy: you may have those ETP folks after your scalp. LOL.

  11. GregT on Thu, 12th Oct 2017 12:28 am 

    “Boat – Excellent job, buddy. That’s the very same link I had pulled up.”

    It comes up whenever anybody enters ‘Cushing’ and ‘oil’ in Google.

    I’ll bet that Boat was real proud of himself, once he figured that one out.

  12. Rockman on Thu, 12th Oct 2017 12:13 pm 

    Greg – Yes, it was a bit of a tease. But I always wonder when I post some data if many fact check me or accept the data. Or just don’t care. LOL.

    IOW I can tell folks that the vast majority of oil in storage is not oil that producers can’t sell because there is a “glut of oil” in the market place. That essentially all the oil being produced is being sold to someone: refineries or oil traders. But would they believe just because the Rockman, the petroleum industry’s gift to this web site, said it was so? LOL.

    But if they actually see the words in another source that the largest owner of oil stored in Cushing belongs to a company that has never drilled a well perhaps they’ll understand why I repeatedly point out there is no oil glut.

    To be clear: As the Rockman defines it a glut exists when there is a commodity sitting in a warehouse because there is no buyer. The inference some make is that if there is oil going into storage there must be no one buying from the producers. But there are buyers…the oil traders and blenders. And for them the dynamic is nothing more then BAU: at times they add to their storage and at other times they sell and reduce the storage volumes. That’s the business they are in.

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