Brent and WTI crude oil price forecasts: 2013 Summary and Projections

Whether you are a short-term trader or long term investor, it’s good to have an idea of where markets could be heading and what events will be the key drivers of market change. Hence in this article I’ll be looking at the possible determinants of oil prices in the remaining 11 months of 2013 and take a look to see where analysts are predicting oil prices will head over the year.

Current Forecasts

Analysts generally forecast prices a couple of years out, but given the large number of unpredictable events that affect macroeconomics and politics, these forecasts often change. The table below demonstrates these changes, showing that forecasts of the 2013 Brent price by analysts polled by Reuters fluctuated up and down over the second half of the year, with the average prediction now standing at $109.7, $3.70 down from the current price of $113.50. Given this is an annual projection, it means most analysts predict prices will fall below $109.7 at some point.

	Mean forecast
Aug-12	$107.2
Sep-12	$106.9
Oct-12	$108.8
Nov-12	$107.5
Dec-12	$108.0
Jan-13	$109.7

What should you make of these forecasts, and how have they been formed? Given the average yearly price is forecast to be less than the current prices, let’s begin with a look at what could cause a fall in Brent and WTI prices.

Booming US production

EIA data show US oil production has been accelerating a record rate, and the increase in production last year outstripped the growth in pipeline capacity, causing the much talked about supply glut at Cushing, Ok and leading to the capacity upgrade and reversal of a pipeline that previously flowed into Cushing. As the graph below shows, production has increased from around 5 mbd to 7 mbd in the last 5 years, with the majority of this growth coming in 2012, when production increased around 14% y/y from Jan-Nov compared to 2011. With EIA expecting US production to continue to grow by another 0.9 mb/d in 2013 (Table 1, an increase of 14%) we could see downward pressure on WTI due to increased supply as well as downward pressure on Brent due to decreased US demand for imports. Such developments are already being noticed; last week Hess announced a closing of a New Jersey refinery that still relied on Brent imports due to increased costs of the North Sea blend versus the WTI blend, which should reduce import demand. This is combined with the fact we have already seen US crude oil imports decreasing in the last few months. Furthermore, in an announcement last week Seaway pipeline operators Enterprise confirmed that the increased capacity was unable to be utilized to full effect due to new bottlenecks in supply in Texas, with these not expected to be alleviated until 2H2013. Thus if increased US production does arise then a lot of this is unlikely to be able to reach refineries and thus increased storage costs will weigh on the price

Other non-OPEC production is expected to rise

The EIA also expects large gains in crude production in other non-OPEC countries, with the agency forecasting total non-OPEC crude and liquid fuels supplies to rise by 1.42 mb/d to 53.89 in 2013. Accounting for the US, this means there should be growth of around 0.5 mb/d a day in other non-OPEC countries, with potential sources of growth including South Sudan, Brazil and Kazakhstan. South Sudan would be the area where supplies could come on-line the soonest, with the current lack of supply a result of a dispute between South Sudan and Sudan over how much the Southern country should have to pay to transport oil through pipelines in the North. If solutions are found and production reaches the pre-shutdown rate there would be an extra 350,000 bd on the market.  Elsewhere, Kazakhstan’s new oilfield Kashagan is expected to reach 150,000 bd by the middle of the year. However as the FT reports, projects in Kazakstahn have been beset with problems and even reaching 150,000 bd would be a success at this stage.

In September the EIA suggested Brazil’s output could grow by up to 200,000 b/d in 2013 due to its offshore, pre-salt fields which could contain reserves equal to those found in the North Sea. Production growth has been slow however due to strict legislation by the Brazilian government aimed at ensuring Brazil gets its fair share of the profits. This included the halting of production & exploration licenses in 2008, resulting in foreign companies having to take the slow process of merging with companies already in possession of licenses in order to gain opportunities for growth. A long awaited auction is now scheduled for May and could result in further Brazilian developments in the second half of 2013, although these issues demonstrate that there may not be considerable Brazilian growth this year.

Upside Risks

While increased production remains the significant downside risk for crude prices, there are a number of factors that could result in crude prices continuing to rise after already increasing in January. These include:

A higher risk premium from geopolitical tensions

The current risk-premium priced into Brent is believed to be between $10-$20. While this premium could rise or fall, there are a number of issues concerning the Middle East and Africa that could add a further premium; this article at oilprice.com provides a narrow summary. This list is not exhaustive however, and a potentially huge problem would be a further breakdown in relations between the Kurdish regional government and the Iraqi central government over long-running tensions that have been further fueled by the regional government signing independent contracts with international oil companies, eager to secure additional supply in the face of high prices. Currently the central government is threatening to withdraw fiscal payments to the area, and readers who want to learn more on this issues should see this Time article as a great starting point, as well as this article at Foreign Policy in Focus for further information.

At the top of the risk-premium agenda will be continued issues between Iran and the Western international community, with current sanctions against Iran reducing exports from 2.2 to 1.4 mb/d according to Reuters. There has been much speculation that military action by Israel against nuclear facilities could be possible, and one of Iran’s main tactical advantages is controlling the Strait of Hormuz, which carries 17.5 mbd of oil supplies from the Middle East to Europe and beyond. While other avenues for crude out of the region exist and are being developed further, the current situation has resulted in Iran threatening to close the Strait in the event of military intervention, and US threatening intervention only if Iran closes the Strait. The problem here would be antagonistic action by other countries such as Israel in the belief that this would push the US to get involved. Today the country did announce it will be meeting directly with the US on February 25^th, so this is the next date to look out for.

Saudi Arabia will cut production

With many members of OPEC counting on oil revenues to fund their budgets, the cartel has tended to keep a minimum Brent price floor. For the first half of 2012 this was thought to be $100, however at a June meeting OPEC communicated that this could comfortably rise to $110 without damaging global growth, and reaffirmed this at the latest meeting in December . While the cartel confirmed that it would maintain a production ceiling of 30 mb/d, about 1 mb/d above its production at the time, the group also said it believed demand for its oil would fall to 29.7 mb/d in 2013 and data released in early January show Saudi Arabia had actually already began reducing their output in December. Although there have been suggestions that this could just be due to seasonal demand issues.

Economic growth in the US and China will accelerate

The effect of macroeconomic expectations for the USA on oil prices was demonstrated over the New Years when politicians voted to avert the so-called fiscal cliff on December 31^st, resulting in the WTI price increasing 3% over the two days of trading on 31^st December and 2^nd January. Given that the last few weeks have seen a number of economic indicators and corporate earnings in both the US and China come in better than expected, many market commentators are now suggesting this could finally be a return to something like pre-crisis growth levels, and thus oil prices would come under further pressure from increased demand.

Oil will increase in line with US equities

This point relates indirectly to above, but argues that potential negative supply factors will be overwhelmed by oils increasing position as an investment asset. As the EIA reports here, correlations between oil and other factors have become increasingly stronger. In particular, since 2008 oil has shown an increasing correlation with US equities and inflation expectations as well as a negative correlation with the USD. Some believe this is because oil is increasingly being seen as an investment asset; hence if equities are rising on economic expectations then oil demand is expected to increase and investment in oil contracts increase too. A negative correlation is seen with the USD as a weaker dollar makes oil cheaper for non-US investors, as well as raising inflation expectations in the US which causes investors there to seek assets that will increase with inflation such as commodities.

Summary and Forecast

With the announcement last week that the Seaway Pipeline has not been able to operate effectively due to storage capacity constraints, I do not see how WTI prices can continue to increase in the first half of the year, particularly if US production does grow as much as analysts are expecting. While I expect prices to rise in the second half of the year on the back of growth and the completion of further storage infrastructure, I nevertheless expect a slight decrease in the average WTI price from what it is now, to somewhere in the $90-$95 range.

For Brent the situation is a bit more tricky. If the geopolitical risk premium remained the same, I would expect at least that the Brent price would not fall much from its current level as global growth offsets some increase in supply, which would also be balanced out by less Saudi production. Having said that, it’s highly unlikely that the risk premium will not change when we have upcoming events in February regarding Iran to look out for. My view would be that the price could fall if these issues look positive, resulting in an average 2013 Brent price of $110 - $115.

Lastly it’s important to remember that prices of any asset class or commodity are difficult to forecast, with oil notably difficult due to the myriad of events that can affect both demand and supply. For an interesting article on how analyst’s forecasts have performed historically, check out this article at risk.net.