Still a buyers' market for energy, but wait...
Get your check books out, now! Energy prices are going up in 2010. But no one is sure when or how much.
By Tom Stundza -- Purchasing, 7/16/2009 2:00:00 AM
World prices for energy are expected to inflate in 2010 in line with increased demand during a broad-based economic recovery. But, in the shorter term, the next six months of 2009, energy buyers will face a marketplace full of reduced demand, increased supply and erratic prices.
Crude oil. The 2.5% collapse in world demand has put refinery utilization rates at 85% of capacity and stockpiles at higher levels, around 25 days of supply. The recent uplift in crude prices isn't expected to trigger a spike; in fact, analysts see pullbacks as summer turns into autumn.
Oil-based products. The year-long slowdown in demand for such middle distillates as heating oil and jet fuel will keep stored products at maximum capacity in the second-half and deflate gasoline prices once the summer driving season ends.
Natural gas. Lack of demand, declining prices and milder temperatures in coming months will reinforce bearish price sentiment in the market—especially in the face of rising domestic supply from shale gas and working gas in storage.
Electricity. Use this year will fall for the first time since 1945 when records began.
Only 17% of the buyers polled by Purchasing in June planned to boost energy purchasing this summer. "Indeed, the demand picture for energy remains very weak," writes analyst Sheraz Mian at Zacks Investment Research in Chicago. "That's why (start-of-June) crude oil stocks are 16.5% above the year-earlier level and remain above the upper limit of the average for this time of the year. And, with 25 days of supply in the U.S., stocks remain significantly above the year-earlier level of 20.7 days."
Although some recent data implies that the U.S. economic recession is bottoming out and the decline in industrial production has reached the bottom, "there has been no indication of any sort of rebound in oil demand," agrees economist John Mothersole, director of IHS Global Insight's Pricing and Purchasing Service in Washington, D.C.
"Looking ahead," he adds that "anticipated modest recovery in industrial demand won't occur until next year." In fact, demand remains so poor that Energy Information Administration (EIA) data showed Americans on average consumed 18.2 million barrels/day in April, 8% less than the year-ago month and the lowest in any four-week period in almost a decade.
The EIA in mid-May reduced the 2009 demand estimate to 83.2 million barrels/day, down 3% from the estimated 85.7 million barrels/day consumed in 2008. "Continued oil demand weakness is premised on strong economic recovery later this year remaining elusive," the IEA says.
The Organization of Oil Exporting Countries (OPEC) has a somewhat more bullish global view, suggesting that demand will be 84 million barrels/day, but even that "forecast for world oil demand growth in 2009 has been revised down (to a 2% annual decline) due to the continued deterioration in the world economy."
Unless there are dramatic production problems ahead, most analyses say supply is expected to match demand this year, which should keep crude oil price inflation in check.
Mothersole of Global Insight says "the recent late-spring rebound in crude oil prices should prove temporary because of those high inventories. Crude stockpiles are flush, while product stocks are plentiful as well," he says. He estimates that total U.S. inventories are about 60 million barrels (or almost 6%) above the top of the range that the U.S. Department of Energy defines as normal, with 24 million barrels of excess crude sloshing around. Upshot: Oil prices will retreat to $45–50/barrel for the second half of this year, he says, "before bouncing back next year along with the economy."
Still, with crude oil in the $65–70 area, OPEC leaders are saber rattling for prices around the $75 level because some producers say that price is needed to encourage investment in new long-term production capacity.
World outlook is muted
Hasan Qabazard, OPEC's director of research, writes that the downward revisions in world oil demand are mostly related to the Americas and the fact that a slow recovery may not kick until the last quarter of the year. "Weak industrial production, high unemployment rates and a slowdown in travel are the main factors behind the collapse in oil demand," he says. Fyfe of IEA agrees that the world economy won't start to recover markedly until 2010 at the earliest.
The OPEC economist and his IEA peer only expect 2009 consumption of crude oil to grow in the Middle East, Africa and China. In fact, in the developing economies—those outside North America, Europe and non-China Asia—use is projected to contract for the first time since 1994 to an average 38.1 million barrels/day this year. That's down 0.4%, or 140,000 barrels a day compared with 2008.
North America oil demand is forecast to decline by 800,000 barrels/day in 2009 to average 23.5 million barrels/day. The region's oil demand is being impacted by the economic crisis, which has reduced industrial demand for middle distillates, says Qabazard. "U.S. oil demand growth has contracted (and) Canadian oil demand is in no better shape," he says, adding that "Mexican oil consumption similarly has been on the decline"
The European economy has plummeted worse than previously expected. "The continent's low industrial production along with a reduction in traveling mileage has pushed oil demand deeper into the red," says Qabazard. "Due to the current recession, the cut in both consumer and industrial spending has had a strong impact on oil demand." So, European oil demand is forecast to drop 3% to 14.75 million barrels/day with an uncertain rate of improvement in 2010.
Japan's economic turmoil is strongly affecting the country's oil demand, which is expected to drop by 5.5–6%. Although South Korea's GDP is expected to dip into the red by 4% this year, the country's oil demand is expected to go down by only 2.2% in 2009.
Because of its own economic problems, China's oil demand growth has been revised down further to show a minor 0.1% growth in 2009 to 7.98 million barrels/day. However, India's oil demand is forecast to grow 3.2% in 2009.
The so-called "other Asia" has seen oil use decline sharply as the region is experiencing a severe contraction in economic growth and a 0.9% drop in oil use to 9.2 million barrels/day. The severe economic recession in the Pacific will drop regional oil demand by 5.2% to an average 7.6 million barrels/day. Oil demand in Latin America is expected to be flat this year at 5.7 million barrels/day. Brazilian oil demand, once the catalyst for the region's growth, now is contracting at a fast pace. But, the Middle East region's oil demand is estimated to grow by 2.8% in 2009 versus 5.9% last year.
So, there is considerable risk to price projections over the next few years, "which mainly stems from the uncertainty associated with the timing and strength of the assumed economic recovery," write analysts ABARE analysts New and Petchey. "If, for example, the expected economic recovery proves to be later or weaker than currently assumed, there is a strong possibility the projected recovery of energy demand will be significantly weaker than currently projected, leading to longer than expected weaker prices."
Gasoline is expected to slip
Gasoline prices have been on a recession-defying march in the first half with futures prices rising largely on optimism that a strengthening economy eventually will drive demand higher. However, "it's more hope than fact," analyst Adam Sieminski of Deutsche Bank in New York tells the Associated Press. "Investors think the economy has bottomed and possibly recovering and they're moving to assets they think will benefit from the economic recovery and that includes commodities generally and oil specifically."
The retail price of gasoline may have peaked around $2.63/gallon in early June, according to economists who see prices slipping this autumn. "This run-up in gasoline prices shouldn't last," according to Tom Kloza, chief oil analyst for the Oil Price Information Service in Wall, N.J., who says a repeat of the 2008 record run-up past $4/gallon in July isn't anticipated. "It would take a geopolitical disaster, an earthquake or major hurricane damage to drive prices much higher than they are now," he says.
The May monthly average of $2.24/gallon for regular unleaded was 20¢ more expensive than the previous month. With millions of people driving less in the recession, refiners have been turning less crude oil into gasoline, supporting higher prices. Atop that, motorists now are purchasing the so-called "summer blend" gasoline to combat smog in the nation's big cities. This gasoline typically costs 5–10¢ more per gallon.
Still, June gasoline is $1.60/gallon less expensive than a year ago when fears of an oil shortage sent May, 2008, prices soaring to $3.93. Actual prices also are below the New York Mercantile Exchange gasoline futures of $1.91/gallon for June shipments and $1.90 for July deliveries.
The government's Energy Information Administration (EIA) forecast puts regular gasoline retail prices at an average $2.21/gallon in the April through September summer driving season, down $1.62 from last summer's $3.83 average. The EIA projects that the regular-grade motor gasoline retail price, which averaged $3.26/gallon in 2008, will average $2.12/gallon this year.
Michael Lynch, president of Strategic Energy & Economic Research in Winchester, Mass., says the national retail average probably won't go much higher than $2.50. Lynch tells the Associated Press that, in the last five years , there's been a tendency for the price to peak out near the start of driving season," which began during the Memorial Day weekend. Sander Cohan, an energy analyst at Energy Security Analysis Inc. in Wakefield, Mass., also predicts gasoline prices at the pump will peak at $2.50/gallon in early summer and then come back down. Mike Fitzpatrick, an analyst at MF Global in New York, is slightly more bullish and thinks retail gasoline won't peak until around the July 4 holiday at $2.60–$2.70.
The outlook for natural gas
Due to ample supply in a gloomy consumption outlook, natural gas futures prices on the New York Mercantile Exchange hit a low of $3.25 per thousand cubic feet (mcf) in late April. Analyst Eric Hagen at Bank of America/Merrill Lynch Research in New York projects that natural gas will trade around $4.12 through the summer, with volatility driven by summer weather forecasts.
Spot prices for natural gas at the wellhead have fallen by nearly half (49%) at a five-month average of $4.11/mcf versus $8.07 for all of 2008. The EIA projects the natural gas spot price at the Henry Hub in Louisiana will slide to an average $4.06/mcf in 2009, down from an average of $9.13/mcf in 2008. Then, buoyed by modest overall economic growth, a slight recovery in industrial demand and more normal seasonal inventory demand, the EIA price for next year is expected to increase to an average of about $5.21/mcf in 2010.
Analyst Hagen maintains a somewhat more bullish forecast for $6.17 for post-recession natural gas in 2010. "We should be in a more typical, weather driven natural gas environment in 2010," he writes to clients.
But with no spike in demand expected, supply is continuing to slide in line with reduced purchasing this year. That's why the number of rigs drilling for natural gas in the U.S. fell to 703 at the start of June, the lowest level in 6 1/2 years, according to a report issued by oil services firm Baker Hughes in Houston.
Domestic natural gas drilling rigs have been in a steady decline since peaking above 1,600 in September, and ended May at about 776 below the same time last year—and at the lowest level since November 2002, when there were 695 gas rigs operating.
Traders and analysts have said tight credit and a 75% slide in natural gas prices over the past 11 months forced many producers to scale back drilling operations. Near record-high gas production last year, and a deepening recession that sharply cut demand, led to a severe oversupply that has collapsed.
With the drop in the rig count (currently 56% off its peak), he projects a supply decrease of around 4.5 billion cubic feet per day from the end of 2008 to the end of 2009. "This should be sufficient to absorb the demand loss from the recession by late 2009 or early 2010," he writes to clients.
Also, Hagen says that "many investors have inquired as to the impact of shale gas on natural gas pricing; we believe that intermediate term, it could be less than some market commentators have suggested. This is simply because we do not believe shale gas can set the marginal cost of supply for another 4–5 years."
Electricity may be stabilizing
Electricity demand has continued to trend negative, down about 4% on an annualized basis from the 2.57 million gigawatts hours used in 2008.
Edison Electricity Information data shows signs of stabilization, though, so analyst Jonathan Arnold at America/Merrill Lynch Research in New York expects slowing decline in coming months. "Industrial sales have been a large contributor to overall sales declines in 2009, with 12-month (data) running at negative 7.3%," he says. That's why regional data is weakest in the industrial belt regions of the U.S.
Interestingly, natural gas prices have been generally trending downward since June 2008, and the early 2009 natural gas price for the electric power sector was almost 38% lower than it was in early 2008.
So, EIA data has showed move evidence of power generation switching from coal to gas, mostly because of the early-2009 decline in natural gas prices while coal has remained stable.
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