What Happened to the Oil Market?

While the focus has been on the Dow Jones Industrials and the S & P, there is another sea change taking place in the energy markets. This past summer the benchmark West Texas Intermediate (WTI) crude was trading near $107.00 per barrel. This past week we saw a low of $79.78 per barrel in the December futures contract, hitting a four year low.

The Middle East and Ukraine were in turmoil throughout the summer and fall and continue to be hot spots. We’ve seen supply disruptions in Iran due to US sanctions and similar problems in Libya, Nigeria and Sudan. Some oil analysts were looking for a spike on the upside due to the chaos. Instead, prices started dropping and continued to fall into this past week.

What we are seeing are the forces of supply and demand at work. In some cases we have only one of the two forces causing price fluctuations. However, now we have slowing economies in Europe and Asia combined with increased supply from the United States. Here are some key statistics:

US oil output has increased 80% since 2008, increasing supply by 3.9 million barrels per day.
Of the 12 members of OPEC, only Saudi Arabia exceeds this production.
Canadian production has increased by 1 million barrels per day since 2008.
In the United States the “Eagle Ford” and “Bakken” are producing “new oil” from shale and fracking.
In spite of the turmoil in Libya, it has quadrupled its output over the past few months.
Countries outside OPEC are on track to increase production by 1.7 million barrels per day. On the demand side, analysts are looking for .9 million barrels per day.

Middle East producers are in a quandary. Saudi Arabia has cut production by .4 million b/d due to slowing demand. However, other countries like Iran and Libya need the oil revenue and cannot risk further declines in revenue.

The United States is also facing a new dilemma. It costs about $70 per barrel to produce shale oil. With prices falling to near that number, some US producers will find it difficult to keep up production. That could mean “hard times” for this once dynamic industry.

For investors the plunge in oil prices has created sharp losses in their portfolios. It is putting investors in the new shale oil industry on edge. In the overall scenario, less demand means lower prices. Excess production means lower prices. This could be a double whammy.

There is a bright side to the oil slide. Lower oil prices are creating lower gasoline prices for US consumers. This could amount to a savings of nearly $160 billion. It is like getting a tax cut without Congress having to authorize it.

For the investor, this current price level of near $80 per barrel is critical. For the entire “new oil” industry to keep on its growth trajectory. Prices must stabilize. Any investor in the shale oil sector must pay close attention to crude oil prices going forward.

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