Oil Prices Will Move Higher Again

Oil prices have been in the news again lately...but this time because of a drop, not a rise in price.

It, like many other commodities, slid due to fears whether these markets were frothy amid apparent slackening demand around the world.

But fears of an even deeper sell-off in oil may be overblown. Wall Street, as usual, is looking at only one side of the equation – the demand side.

Demand is indeed slowing from the torrid pace of a year ago. The International Energy Agency (IEA) forecast a growth rate of just 1.3 million barrels a day this year. This is down from a near record rate of increase of 2.8 million barrels a day last year.

However, oil investors should not lose sight of oil supply growth which is also slowing down. It is the supply side of the oil equation which remains very positive over the long term for higher oil prices.


Iraqi Oil


One area that oil bears have been pointing to lately is Iraq. The country has the stated intention of raising its oil production from 2.6 million barrels of oil per day to more than 12 million barrels of oil per day by 2017.

But now some Iraqi oil officials have hinted that this goal is unattainable due to mounting constraints in pipelines and export terminals.

An official downgrade from the government on its oil target is expected soon. The target is likely to be at most in the range of 5-6 million barrels a day by 2015. And even that target may not be hit.

The head of Lukoil in the Middle East, Gati Al-Jebouri, said “Whether that [2015 goal] is achievable given the infrastructure is a difficult question to answer.”

A senior official from a western oil company in the region was quoted as saying that Iraq was moving from “propaganda to the reality” regarding oil output targets.

Yet, many on Wall Street continue to believe the propaganda and think that oil supplies in the future are not a problem at all.

The projected huge increase in Iraqi oil along with increased production from non-Opec producers such as Brazil is critical to hopes for lower oil prices in the years ahead.

Do these hopes have any chance of becoming reality? Most likely not.


Supply Problems


The reality is that oil supplies are slowing despite the incentive of higher oil prices.

This trend is important because supply growth in non-OPEC countries over the past two years has been exceptionally strong. It averaged about 1 million barrels per day annually. This is the highest two-year period since 1996-97. Last year's 1.1 million barrel growth spurt was the biggest annual increase since 2002.

This surge in production was critical in actually holding down oil prices somewhat. But this surge seems now to be coming to an end.

The IEA forecasts growth from non-OPEC sources to be only 750,000 barrels per day. And even this forecast is highly suspect.

It has a lot of very optimistic assumptions built into it. One of them is that, despite the turmoil, Middle East oil production will only drop by 100,000 barrels a day until July and then resume full production. Not likely.

Other assumptions include troubled Yemen producing its full output...and the North Sea fields, some of which shut down every summer for maintenance, not shutting down at all this year.


Oil Prices' Future Course


Wall Street though is partially right. Strong global demand, especially from emerging markets, has played a part in driving oil prices ever higher over the past decade.

But even more critical to surging oil prices has been the lack of growth in supplies of easily accessible oil.

As famed commodities investor Jim Rogers has said time and time again “where is the oil?” He's right – there hasn't been a large discovery of easily accessed oil in decades – that era is over.

Oil investors need to keep in mind that, barring a major surprise discovery, the situation with oil supplies in the years ahead will lead to an oil price rise. And most likely, as Jim Rogers recently told the BBC, “beyond expectations”.