The Fifty Dollar Question: How Stable is the Current Foundation Underlying $50 Oil?

This post is also available at my LinkedIn page, available here.

Like most of my oil industry readership, I see WTI crude oil prices as a proxy for its overall health and robustness; lower prices = less “healthy,” higher prices = more “healthy.” We have all watched oil prices crater to an unsustainably low ~$26/bbl and have been urging it higher ever since. Like you, there was a sense of significance (at least to me) when oil futures contracts broke the $50 barrier. It’s been an impressive run, to effectively have doubled in price from the lows only several months ago. In fact, it’s impressive enough to warrant further analysis.

The biggest takeaway that I would impress on anyone is that the current foundation underlying recent bullishness in oil prices is, shall we say, akin to a well-developed game of Jenga. Demand forecasts have been OK, but the real strength has come from supply disruptions (Nigeria and Fort Stockton, mainly, and potentially Venezuela in the near future). Supply disruptions are generally not long-term prospects, and if/when some or all of them are ameliorated – or when other countries step in to fill those missing marginal barrels – the storyline of burgeoning supply will probably take hold once again. In addition to this, there has been industry chatter and statements (see, e.g., Scott Sheffield’s recent comments regarding their view of $50/bbl oil) that shale oil will up production once $50 seems like it will hold. I imagine that most producers will exercise due prudence in letting the market “tell” us, so to speak, if it is ready for production increases; however, any that jump that gun in a meaningful way could upset market upside.

Ultimately, I think that watching how oil pricing reacts to certain market events will be an accurate temperature of what the market really thinks, in terms of overall bullishness and bearishness. Whenever some bad news hits the market, if oil prices can hold against the downward pressure that would go a long way towards demonstrating that the oil markets are more optimistic than the overall narrative currently indicates.