Commodities Round-up: Oil prices tumble amid as U.S. production continues to increase

A price war is looming

A price war is looming

Saudi's demand for oil products declined to 1.959 million bpd in January to from 2.21 million bpd the month before. Image source: Getty Images.

Halfway into an Opec-led oil supply cut, Asia remains awash with fuel in a sign that the group's efforts to rein in a global glut have so far had little effect.

Industry players at the meeting aired their concerns that growing USA output may thwart OPEC's efforts to trim stockpiles and raise prices, an idea underpinned by US government data released during the week showing inventories at record-high levels. As some members cut output, prices typically rise, giving other countries an incentive to make some extra money by exceeding their production quotas.

Before the recent sell off, hedge fund managers had boosted their net long position in Brent and WTI by 530 million barrels between the middle of November and the middle of February.

The U.S. Energy Information Administration earlier this month raised its forecast for 2017 average crude production in the country to 9.2 million bpd, representing a 300,000 bpd increase from 2016. That is 22% above the collective OPEC and non-OPEC cuts, assuming 100% compliance.

Greg McKenna, chief market strategist at brokerage AxiTrader, said the fall in crude oil prices could be attributed to "the cracks in the Opec/non-Opec deal" with United States shale oil back as the new swing player in production. The sell down of oil and gas shares accelerated, and MSCI Energy has now lost two thirds of 2016's hard earned relative gains. The worrying part for OPEC is that the EIA estimates that US oil production will average 9,210,000 bpd this year. This implies a drop of 0.8 million barrels per day.

Looking ahead, nimble USA oil companies seem likely to keep raising output, even if oil prices remain near today's level. This does not look at the prospect of the cuts being extended (as I believe they will be) and it doesn't look at the prospect of OPEC and non-OPEC nations achieving even greater compliance with their agreement. The number of oil rigs drilling in the U.S has been rising at a steady rate. It was the ninth straight week the oil rig count has grown, and 19th week in the past 20. U.S. oil rig count has been increasing since June and is now at its highest since September 2015.

Oil companies have dramatically reduced their costs in the past two years or so. Furthermore, costs were artificially inflated a few years ago due to shortages of personnel and equipment.

"It's sort of a negative feedback loop, where money managers were selling because the price was falling, and the price was falling in part because money managers were selling", said Tim Evans, an analyst at Citi Futures Perspective in NY, in a telephone interview.

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