RIYADH: Markets stand traumatised. From $61.43 a barrel on June 10, WTI is now hovering at $48. The Brent has breached the $55 floor. This is mauling.

Continuing glut, expectations of more from Iran and demand worries from all around, especially China, are contributing to current woes.

Ample supply, from all around, continues to weigh on markets. The US is currently producing about one million barrels above the year-ago level.

According to the Energy Information Administration (EIA), the US crude oil stocks too rose 2.5 million barrels to 439 million barrels, trumping expectations for a drop in inventory.

The level is almost 93 million barrels more than were in storage this time last year — traditionally a time of strong demand because of the peak summer driving season.

With the US production remaining near the highest level in four decades, output from Saudi Arabia and Iraq surging to record levels and Iran staying focused on enhancing exports, the glut showed little signs of abating.

Contraction in China’s factory sector and the strengthening of the dollar against a basket of currencies also helped further maul the markets. Adding to demand concern is the fact that activity in China’s manufacturing sector shrunk at the fastest pace in 15 months in July.

Sentiments are bearish. “This market is headed to $40 before we go to $60 again,” Bill Baruch, chief market strategist at Chicago-based iiTrader was quoted by CNBC as saying.

In terms of demand, the long-term picture looks bearish, with the International Energy Agency saying in a July report that global oil demand is set to slow in 2016.

Morgan Stanley is projecting gloom too; the current bearish outlook could be the worst oil crash in 45 years, rivalling the iconic price crash of 1986.

“We have been expecting the current downturn to be as severe as the one in 1986 — the worst for at least 45 years — but not worse than that,” analyst Martijn Rats wrote. But now with oil rolling over again, it is starting to look like a worst-case scenario could be in play.

However, some still continue to see light at the end of the tunnel. UBS feels the scene is set for a recovery over the next three years — but still not in short term — with potential spikes of above $100.

Nik Burns of UBS believes that while the markets are likely to stay oversupplied for another 18 months, a turnaround is likely sooner rather than later, given the much higher prices needed to stimulate investment in new production that will soon be needed to meet growing demand.

“You only really have one year to 18 months of growth in demand before you get the markets back into balance: the market is going to look through that,” he said at a briefing in Sydney.

“Supply just is not going to be there: that could result in prices heading up to or potentially north of $100 a barrel.”

Burns added that no oil company had sanctioned a new conventional oil development for the last six months as low prices deterred any new investment in the result. This would result in a material drop in conventional oil supply starting to emerge within 18-36 months as fields naturally decline. And while some expect the latent capacity in US shale liquids to be able to fill that gap, UBS underlines that is unlikely.

The softening oil market and consequent drop in oil revenues are forcing the single product economies of some of the oil rich states to undertake major structural reforms.

Fuel subsidies, that globally reached $5.3 trillion this year, are under focus.

An IMF report in May said that fuel subsidies are to touch $29bn mark this year in the UAE and $106.6bn in Saudi Arabia.

With considerably lower oil revenues, oil rich UAE is set to register a fiscal budget deficit for the first time since 2009.

In order to balance its budget, UAE has announced removing fuel subsidies from next month, linking gasoline and diesel prices to global oil markets. Are others to follow — remains to be seen. Energy economics is in for a massive makeover.

Published in Dawn, July 26th, 2015

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