Getty ImagesAn engineer walks in the Barjisiya oil fields in Iraq. Bank of America says the OPEC cartel is dead and free markets now control the global cost of oil.
The OPEC oil cartel no longer exists in any meaningful sense and crude prices will slump to $50 a barrel over coming months as market forces shake out the weakest producers, Bank of America has warned.
Revolutionary changes sweeping the world’s energy industry will drive down the price of liquefied natural gas (LNG), creating a “multi-year” glut and a much cheaper source for Europe’s gas needs.
Francisco Blanch, the bank’s commodity chief, said OPEC is “effectively dissolved” after it failed to stabilize prices at its last meeting. “The consequences are profound and long-lasting,” he added.
The free market will now set the global cost of oil, leading to a new era of wild price swings and disorderly trading that benefits only Middle East petro-states with the deepest pockets, such as Saudi Arabia.
BoA said in its year-end report that at least 15 per cent of US shale producers are losing money at current prices, and more than half will be under water if US crude falls below $55. The high-cost producers in the Permian basin will be the first to “feel the pain” and may have to cut back on production soon.
The claims pit BoA against its arch-rival Citigroup, which claims the US shale industry is far more resilient than widely supposed, with marginal costs for existing rigs nearer $40, and much of its output hedged on the futures markets.
BoA said the current slump will choke off shale projects in Argentina and Mexico, and force retrenchment in Canadian oil sands and some of Russia’s remote fields. The major oil companies will have to cut back on projects with a break-even cost below $80 for Brent crude.
Gluskin Sheff’s top economist looks at who wins and who loses in a world where crude could soon go to $60. Read on
It will take six months or so to whittle away the 1 million barrels a day of excess oil on the market — with Brent falling below $60 and US crude reaching $50 — given that supply and demand are both “inelastic” in the short-run. That will create the start of the next shortage.
“We expect a pretty sharp rebound to the high $80s or even $90 in the second half of next year,” said Sabine Schels, the bank’s energy expert.
We expect a pretty sharp rebound to the high $80s or even $90 in the second half of next year
Ms. Schels said the global market for LNG will “change drastically” in 2015, going into a “bear market” lasting years as a surge of supply from Australia compounds the global effects of the US gas saga.
If the forecast is correct, the LNG flood could have powerful political effects, giving Europe a source of mass supply that can undercut pipeline gas from Russia. The EU already has enough LNG terminals to cover most of its gas needs but has not been able to use this asset as a geostrategic bargaining chip with the Kremlin because LNG has been in scarce supply, mostly diverted to Japan and Korea. Much of Europe may not need Russian gas within a couple of years.
BoA said the oil price crash is worth $1-trillion of stimulus for the global economy, equal to a $730-billion “tax cut” in 2015. Yet the effects are complex, with winners and losers and diminishing benefits the further it falls. Academic studies suggest that oil crashes can turn negative if they trigger systemic financial crises in commodity states.
Barnaby Martin, BoA’s European credit chief, said world asset markets may face a rough patch as the U.S. Federal Reserve starts to tighten afters year of largesse.
He flagged warnings by William Dudley, head of the New York Fed, that US authorities tightened too gently in 2004 and might do better to adopt the strategy of 1994, when they raised rates fast and hard, sending tremors through global bond markets.
BoA said quantitative easing in Europe and Japan will cover just 35 per cent of the global stimulus lost as the Fed pulls back, creating a treacherous hiatus for markets. It warned that the full effect of Fed tapering had yet to be felt. From now on the markets cannot be expected to be rescued every time there is a squall.
What is clear is that the world has become addicted to central bank stimulus. BoA said 56 per cent of global GDP is supported by zero interest rates, and so are 83 per cent of the free-floating equities on global bourses. Half of all government bonds in the world yield less than 1 per cent. Roughly 1.4 billion people are experiencing negative rates in one form or another.
These are astonishing figures, evidence of a 1930s-style depression, albeit one that is still contained. Nobody knows what will happen as the Fed tries break out of the stimulus trap, including Fed officials themselves.