American Oil and Gas Reporter - January 2016 - 34

Outlook 2016
Dollars And Sense:
Stronger Oil Price Required

The past 15 months have been as trying for the
U.S. industry as any stretch in recent memory.
With West Texas Intermediate prices falling 50 percent
year to year, oil rig counts collapsed to their lowest levels
in five years in third quarter 2015. But analysis from Barclays indicates the price cycle may have reached bottom,
and that oil prices are poised to begin ticking higher.
What are your WTI and Brent price outlooks for 2016?
What are the low-end, high-end and most-probable pricing scenarios through 2020?
MICHAEL COHEN: We see WTI at $56 and Brent at $60
for 2016. We expect prices will remain around late-2015 levels in the first quarter, then gradually improve over the course
of the year as the overall market balance begins to tighten.
There is not always a tight correlation between stock builds
and prices, so how the market views the fundamentals for 2017
likely will play a bigger role in price formation than those in
place for 2016. With that in mind, we expect the market to come
back into balance by fourth quarter 2016. In other words, global supply will equal global demand.
We expect non-OPEC supply to decline by about 500,000
bbl/d next year, and that demand will increase by about 1.2
MMbbl/d, in contrast to demand in 2015, where the increase
likely was in the range of 1.7 MMbbl/d-1.8 MMbbl/d.
At the same time, supply from the Organization of the Petroleum Exporting Countries is likely to increase by around 1.0
MMbbl/d. Some of that is going to come from a return in supplies from Iran, but it also is likely to result from elevated supply from both Saudi Arabia and, to a much smaller degree, Iraq.
Prices may stay (in the $40 range) or go even lower, if enough
supply-side issues occur. The two biggest potential issues are
whether Libyan production returns and averages in excess of 1
MMbbl/d, and whether Iranian supply increases more than
500,000 bbl/d.
On the demand side, a scenario that involves a lower price
is one in which Chinese commodity demand continues to decline in excess of the market's expectation, or winter heating
oil and other fuel demand is muted as a result of El Niño. These
are not part of our base case, but if they occur, they could create additional price pressure.

Can you summarize Barclays' rationale for strengthening oil prices incrementally, and why a continuation
of $40-$50 oil invariably would make the market susceptible
to supply shortages and price spikes? In keeping, what are your
expectations for North American and global capital spending
in 2016, and what does that imply for supply longer term?
COHEN: After analyzing the break-evens in the shale plays,
we do not see a $40-$45 price as adequate to sustain continued

34 THE AMERICAN OIL & GAS REPORTER

growth in shale production for the medium term. With shale
supply flat or in decline, the growth from other supply sources
will be insufficient to fill the void created by production declines and incremental demand growth.
Higher prices will be necessary to support the activity that
fills that void. Some oil and gas producers have reported they
can grow production even when WTI is below $50. That may
be true at the moment, but current activity is largely a function
of cyclical cost deflation. Although oil and gas companies continue to make structural improvements, as rig activity increases, we expect service costs (and therefore, break-even prices)
to recover.
Reduced capital expenditures also will support prices.
CAPEX fell 25-30 percent in 2015 and should fall an additional 20 percent in 2016. There are a number of projects that should
have been coming on line in 2020-21, but likely will not receive a final investment decision (FID) in 2016. We are seeing
a handful of the most attractive projects move forward, but certain projects in Canada, the deepwater Gulf of Mexico, Angola, Nigeria and Brazil that fall on the far end of the cost curve
are unlikely to receive approval.
This will create a supply "void" that will have to be met,
eventually causing prices to move higher to develop these supplies to fill that void.
The delays in FIDs will begin to have a major effect on prices
after 2020. In the short term, it is more important to consider
the impact low oil prices have on maintenance and operating
expenses. When investment falls, mature field decline rates accelerate. For example, the decline rate in existing fields went
from 2.0 percent to 5.0 percent in the early 1990s, from 3.0 to
5.5 percent during the 1998-99 downturn, and from 4.0 percent
to 6.0 percent in the 2008-09 depression. In our view, that will
tighten the market sooner than many expect.

According to IEA, global oil demand grew by a fiveyear high of 1.8 MMbbl/d in 2015 and is projected
to expand another 1.2 MMbbl/d this year. Adding 3.0
MMbbl/d in new demand is certainly welcome news to producers. What are the key drivers behind this growth, and what
specific demand-side factors support higher-price expectations over the next three to four years?
COHEN: The first source of incremental demand is in the
Middle East. The growth there comes from infrastructure spending and expanding populations, all of whom are demanding
more energy, and specifically, more oil. Demand will be lower
than otherwise because Saudi Arabia is building natural gasfired power plants to limit its oil consumption, which has been
very high for the past couple years.
Temperatures in the Middle East have been high, especially
during the summer, which has increased power usage. Oil's
share of the power sector fuel mix is growing, especially in
Iraq. The country cannot meet its power requirements, so it is
relying more and more on diesel.
The final source of Middle East demand is Iran. As sanctions
are removed, an increase in Iranian economic activity will partially offset the additional supply it brings to the global market.
Most of this economic activity will involve investments in

American Oil and Gas Reporter - January 2016

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