Oil in 2013: Boom or Bust?

Oil in 2013: Boom or Bust?

As yet another year of market volatility draws to close, investors are seeking guidance as to what to expect heading into 2013. The oil market has been the definition of unsettled during 2012, and uncertainty is set to continue over the coming 12 months.

As is the case with most commodities, oil forecasts are mixed leading into what is likely to be a pivotal period for the market as a whole. A potential economic slowdown, combined with the fact that US oil production is reaching its highest levels in well over a decade, means that investors could find themselves in a major headwind in relation to oil prices.

Further, many believe that movement toward US energy independence, cleaner energy and slowing economic growth could suggest that longer-term oil prices are likely to trend downwards.

Price crash “unlikely”

A price crash in 2013 is unlikely as geopolitical concerns should help support the market, according to analysts polled by Reuters. The same analysts added that stagnant economic growth and increasing crude supplies are expected to gradually draw oil prices lower.

The monthly survey forecasts that North Sea Brent crude oil will average $108 per barrel in 2013, down from an average of $111.71 so far this year.

“While geopolitical concerns in the Middle East still remain at the forefront, concerns about the United States going over the ‘fiscal cliff’ and the euro area potentially slipping back into recession could have more dire consequences for crude oil demand for the first half of 2013,” said Gain Capital Group (NYSE:GCAP) analyst Chris Tevere.

Barclays: Geopolitical upheaval could shift prices

Meanwhile, Barclays (LSE:BARC) oil analysts noted that any significant shift in prices will require either a substantial change in oil-balance fundamentals or significant geopolitical upheaval.

“While there are other likely areas of interest for the oil market in 2013, in our view the main nexus for the transmission into oil prices is likely to be the Middle East, with the spiralling situations in Syria and Iraq layered in on top of the core issue of Iran’s external relations,” said Barclays in a report.

The institution confirmed that it is maintaining its 2013 Brent forecast of $125 per barrel — the same level it has predicted over the past 21 months.

WTI discount to Brent expected to fall

The US Energy Information Administration (EIA) predicts that Brent and WTI crude oil spot prices will average $104 per barrel and $88 per barrel, respectively, in 2013. The WTI discount to Brent crude oil, which averaged $23 per barrel in November 2012, is expected to fall to an average of $11 per barrel by the fourth quarter of 2013.

The EIA notes that this forecast rests on the assumption that US real gross domestic product (GDP) will grow by 2.1 percent in 2012 and 1.8 percent in 2013. It is also dependent on world-oil-consumption-weighted real GDP growing by 2.7 percent in 2012 and 2.4 percent in 2013.

Interestingly, the EIA also expects US domestic crude oil production to increase to 7.1 million barrels per day in 2013 — the highest annual average rate of production since 1992.

Supply issues a main focus

In comments to Forbes, Peter Kiernan, lead energy analyst for the Economist Intelligence Unit, said that even fast-growing emerging markets and non-Organisation for Economic Co-operation and Development (OECD) nations will experience poor economic performance in 2013.

“We see an easing of oil prices [in 2013] as demand remains weak,” he said, noting, “[still], the generally secular trend of new finds becoming more expensive to extract” could keep a floor under prices.

Kierman added that crude supply issues will be a main focus moving forward, noting that Brent crude’s resilience is the result of low spare capacity among OPEC nations and a risk premium caused by the potential for Middle East conflict, particularly between Israel and Iran.

A difficult year to predict

With such varied forecasts, it seems that the next year will be positive for energy consumers, but will have less upside for energy investors — especially those invested in the oil sector.

Being able to accurately forecast crude prices is challenging at the best of times — especially considering that making forecasts is so closely linked with tracking geopolitical events. The ongoing instability being experienced in the Middle East is likely to have speculators bidding up the price of crude futures, while at the same time oil prices are unlikely to see much upside if higher global production amid sluggish economic growth continues.

Many feel that on average, prices are likely to fall; however, as has been shown in the past, it only takes a single incident in an oil-rich region to completely disrupt all logical assumptions about futures.

If crude remains in its current range, investment opportunities will still exist. Companies that assist with production are likely to benefit from increased drilling while remaining relatively protected from price fluctuations, and refiners are likely to gain as infrastructure in the US develops on the back of plans to build towards energy independence.

 

Securities Disclosure: I, Adam Currie, hold no direct investment interest in any company mentioned in this article.