Will Oil Prices Stay High?

Brian Hicks

Written By Brian Hicks

Posted July 25, 2013

Oil prices have taken a wild ride in recent years, and now, with prices so high, many are wondering if the price of U.S. crude may be overvalued.

West Texas Intermediate (WTI) has risen roughly 16 percent this year and caught up to the price of Brent crude, which typically sells at a premium. In contrast, Brent crude has declined by 3 percent this year.

mar 2011 oil pumpLast week, WTI reached a 16-month high on a strong demand from refiners. And with signs of a rebounding U.S. economy and efforts to relinquish the supply glut at the WTI storage hub in Cushing, Oklahoma, analysts may have gotten a little overzealous.

And by a little, I mean it could find itself settling by as much as 35 percent in the next year.

WTI closed at $105.39 yesterday, while Brent was at $107.19. Last Friday, WTI briefly traded at a premium to Brent for the first time in nearly three years. Between 2000 and 2010, WTI was typically traded at a premium, but then Brent took over, and it has been that way for the last three years – until Friday.

This week, oil had fallen in two of the first three days as U.S. output reached a 22-year high last week but also revealed less crude stockpiles. And with signs that China growing less than expected, it’s an indication of things to come.

Why So High

As Chinese manufacturing and overall growth has contracted more than economists had anticipated, the U.S. crude stockpiles decreased 29.9 million barrels in the four weeks ending last Friday, according to Bloomberg. That’s the largest four-week drop dating all the way back to 1982 – this after inventories reached 397.6 million on May 24, the most since 1931.

U.S. refineries hit typically peak use in the summer months because of the demand for gasoline, but they were only operating at 92.3 percent of capacity, down from data shown the prior week.

In the same four-week period, petroleum consumption increased by 1.85 million barrels a day, the most since January of 2011.

But the real head scratcher is China. If Chinese manufacturing numbers indicate a sluggish Chinese manufacturing sector in a final report to be released August 1, it will likely be at its lowest levels in 11 months.

China is the second-largest oil consumer in the world at about 11 percent of global demand, trailing only the U.S., which consumes roughly 21 percent.

Even if China does lose some speed in manufacturing, it looks like Europe overall has been on the upswing, led by Germany, and may possibly be emerging from a record-long recession. The European economy hasn’t shown signs of growth in six quarters.

Recent Opinion

The recent rise of WTI prices has surprised many analysts as the gap narrows with Brent crude. It’s closed on a more than $20 difference in just the past five months, leaving some analysts to believe it’s bound to start spiraling back down. Some are warning of a potential ‘flash-crash’ for WTI.

David Lennox is one such man. A Resource Analyst at Australian trading firm Fat Prophets, he claims oil prices will do just that. By the end of the year, he speculates, the WTI price will be adjusted accordingly and set itself by dropping 35 percent from its current levels.

Lennox says U.S. demand isn’t as strong as originally thought, so the WTI price as it stands now isn’t where it belongs.

Lennox went on to say, according to CNBC, “We think it should be around $70 to $95, so we are in line for a reasonable correction by the end of the year if demand continues to be muted.”

Political unrest in Egypt, he says, could also play a pivotal role in where prices will eventually settle.

Another analyst, Andrew Su, Chief Executive Officer at Compass Global Markets, believes that Lennox isn’t far off in his estimation. He sees the WTI price falling closer to 30 percent in the next year, according to CNBC, to about $75 per barrel.

No matter how you cut this thing up, the market is sputtering right now. There is a lot of uncertainty as global economic growth increases, geopolitical tensions run high, and especially as the shale boom extends to all corners of the globe.

It seems like the overall consensus is that WTI crude oil prices are on their way down – way down.

I guess in 12 months’ time we’ll know exactly how far off estimates really were.


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