Oil prices weaken somewhat in August on slowing economic recovery
In NBK’s latest Oil Brief: Following a strong start, crude oil prices weakened gradually in August, moving closer towards recent lows. The price of Kuwait Export Crude (KEC) finished August at USD69.7 per barrel (pb) after hitting USD77.6 at the start of the month. Weaker economic data in developed economies have revived debate around a possible double-dip recession, or at least a stalling recovery. Stronger than expected non-OPEC production growth and increases in OPEC output also helped push prices lower. Still, markets continue to factor in a good likelihood of active supply management on the part of OPEC producers, particularly Saudi Arabia, which has kept prices within the USD70-80 pb range in recent weeks.
In August, oil prices started off strongly before quickly losing all gains made during the prior month. The price of West Texas Intermediate (WTI) averaged USD76.6 during the month, USD0.3 above the July average, while Brent lost USD4.0 to average USD76.7. Kuwait crude, which hit USD77.6 on August 3, ended the month at USD69.7 and averaged USD72.3 for the month.
Despite weaker economic data in developed economies, global oil demand is expected to remain relatively strong in 2010 and 2011. The Centre for Global Energy Studies (CGES) expects demand to rise by 1.5 million barrels per day (mbpd) this year (1.7%) and a further 1.4 mbpd (1.8%) in 2011. While both projections have been revised slightly downwards, the CGES is notably of the view that growth will be sustained in 2011. In contrast, the International Energy Agency (IEA) sees a slowdown in 2011 from growth of 1.9 mbpd (2.2%) in 2010 to 1.3 mbpd (1.5%) next year.
Crude oil production of the OPEC-11 (excluding Iraq) was 143,000 barrels per day (bpd) higher in July having risen to 26.86 mbpd. Production reached its highest level in months to as much as 2 mbpd above official OPEC quota levels. Nigeria, Saudi Arabia, and the UAE saw the largest increases, some of which were offset by declines in Angola, Iraq and Iran.
Global oil demand is expected to see slower growth in the second half of 2010 as strong gains in the early part of the recovery give way to a more moderate trend. Growth of 1.5 mbpd this year and 1.4 mbpd in 2011 underlies our base case scenario. The scenario also assumes moderate growth in non-OPEC output in 2010 of about 1 mbpd, though followed by a small decline in 2011. Under these assumptions, KEC is expected to weaken from USD76 in 2Q10 to below USD64 in 1Q11. The price of Kuwait’s crude is expected to average USD73.5 in 2010. Under this scenario, cuts in OPEC output quotas in early 2011 would give some support to prices, seeing them rise in 2Q11.
While most data points to a weak economic recovery, a stronger economic picture remains a possibility and represents our upside scenario. Stronger growth than is currently expected could boost global oil demand and push prices higher. Under such conditions we assume no cuts in OPEC’s production targets, as pressure to boost prices would subside. This scenario sees KEC inching up to average USD75 in 4Q10 and just below that level in 2010. Prices would still weaken slightly in 1Q11 but remain above USD72.
A risk of lower prices is also possible in the event crude oil supply growth surprises on the upside during the rest of 2010 and in 2011. With non-OPEC output in 2011 expected to be flat in our base case scenario, there is room for a stronger outcome especially from higher supply growth in Russia. Such an outcome could see supply growth of 200,000 bpd in 2011 as compared to a 100,000 decline. Under these conditions, KEC would ease to average USD68.3 in 4Q10 before declining further in 1Q11 to USD60.6. The price of Kuwait crude would still be expected to average above USD70 pb during 2010.
The NBK report concluded: In line with these three scenarios, KEC is expected to average between USD69 and USD74 pb during the current fiscal year (FY2010/11). With the price expected to remain well above the USD43 assumed by the government, Kuwait’s budget is likely to see yet another surplus in FY2010/11, albeit a smaller one than last year. While the government projects a fiscal deficit of KD 6.4 billion, we see a surplus of between KD 1.3 and 4.2 billion this year, before allocations to the RFFG. This forecast is based on actual spending coming in at an estimated 5%-10% below budgeted due to the usual spending shortfalls.