Lower crude oil Prices are here to stay despite Russian manipulation

Exclusive analysis by Steven Knight, Market Strategist for Blackwell Global

The past week has seen crude oil volatile, and swinging wildly, as news emanating from Russia sparks a renewed belief in a coordinated cut to OPEC supply. However, the stark reality is that a new oil order is in play and the only way forward is the rebalancing of supply and the introduction of a new equilibrium.

Given Russia’s reliance upon energy revenues it is unsurprising to see the state lobbying for production cuts from both OPEC and Non-OPEC members alike. Unfortunately, despite renewed headlines pointing to a coordinated campaign of production cuts, it is highly unlikely that any such supply reduction will occur without a supporting collapse in global growth.

Although global GDP is slowing, there is little evidence to suggest any form of a large contraction waiting in the wings. Subsequently, Russian plans to effect a global agreement on supply are unlikely to be realised and will only serve to fuel short term volatility in crude prices.

In addition, it is clear that any such production cut agreement would be largely self-defeating given the responsiveness of the US shale industry to pricing changes. US Shale typically has an increasingly short response cycle and, subsequently, any price increase is likely to bring with it a corresponding rise in the Baker Hughes rig count. Therefore, OPEC will need to allow the rebalancing within crude markets to occur through fundamentals rather than artificial supply cuts which are only short term in nature.

In short, a new stable equilibrium price for crude oil can only be achieved through supply imbalances being cleared and subsequently damaging the higher cost producers. Otherwise, any such cut is likely to be short lived as US producers clamour to stand-up rig and production activities. Subsequently, my analysis from 2015 remains unchanged, oil prices must remain low enough to force fundamentals to change and introduce a new, long run equilibrium price.

Our current modelling of the industry suggests that the $38.00 appears to largely be the financial pain point for US shale oil producers whilst $21.00 represents the bottom end of the operable range.

Whilst price remains within this range, US producers will be significantly disadvantaged and their respective capital reserves will feel the pinch, eventually locking them out of easy access to the debt markets. However, expect the months ahead to be extremely volatile as crude oil prices meander without a strong fundamental or technical trend whilst being highly reactive to news events.