Brokerage firm Barclays is overall bearish on the outlook for crude oil and believes that the asset class may perform even poorly if supply from Iran starts flowing in.
In an interview to CNBC-TV18, Miswin Mahesh, energy analyst, Barclays says oil supply may double if Iran's sanctions are eased. The surplus as of now is 1.2 million barrels per day.
Furthermore, Mahesh advises investors to not short the asset class as the risk-reward ratio is unlikely to be in their favour.
Mahesh sees Nymex crude in USD 38-42 range.
Below is the verbatim transcript of Miswin Mahesh’s interview with Sumaira Abidi & Reema Tendulkar on CNBC-TV18.
Reema: In one of your recent articles that I was reading you indicated that we still have quite a lot of variables that could affect the spot price for a long period. At least for the last four months oil seems to be fairly sideways within that USD 15 range. What is your sense which direction is crude likely to head next and what could be the key factors that will governor it?
A: We are still bearish on crude oil for the second quarter in terms of fundamentals it is a period where the actual surplus in the market is expanding relative to Q1. However, the surprise band-aid so as to say that has come and helped oil market balances at the moment is the fact that you have got the Yemeni strikes which have been started by the Saudi government and that has cost bit of the geopolitical risk premia to come back now.
Yemen is fundamentally in terms of its contribution to the oil market it is not as big it is the 39th biggest oil producer. The reason Yemen is important is for two reasons from geopolitical point of view it is a proxy war between a lot of actors in the region and if that cascades into something very big that is what the fear in the markets is. The second thing is in terms of Yemen on a strategic shipping choke point- 3.8 million barrels per day of oil goes through those channels and that is the big worry for the market at the moment.
So that has been priced in but fundamentally as you mentioned before we Barclays is still bearish on crude oil for the second quarter just because there is no supply adjustment or demand adjustment that is coming to absorb that surplus in the market.Q: There is also this possibility that you could see some bit of relaxation on sanctions against Iran. Add to it the fact that one of the larger members of Organization of the Petroleum Exporting Countries (OPEC) that Saudi Arabia is unwilling to cut production at all, what is this pull or push going to do to prices? How much lower do you think prices could head to from here in the second half like you are saying?
A: Iran is very important in terms of market balances because they can add in another million barrels. However, just to give you numbers again the current oil markets surplus about demand and supplies already 1.2 million barrels a day. So when Iran is also allowed to come back in to the market once the sanctions are removed that would double the market surplus.
Again on the Saudi point of view it is interesting because they are fighting a proxy war. The Shia-Sunni divide is very much strong and you will have a situation where Saudi Arabia will be even less willing to cut production because it is Iranians that are coming and putting extra barrels into the markets. Now the second half of the year how quickly can Iran bring back those barrels that is the interesting because these fields have been shut down and sanctioned in a very haphazard manner, The reservoir pressure levels all of those are tricky for them to get that 1 million barrels per day almost instantaneously.
But what they can do when the European shipping in insurance sanctions are removed is that they can remove oil that has been stored whether it be in their tankers or in storage terminals onshore. That will again be fairly bearish for crude. So I would just for the here in terms of a price trajectory Barclays view is that we do not see a V-shaped recovery for oil prices going higher.
We see more of the U-shaped recovery eventually prices will have to raise higher. In between there is lot of positioning that needs to be looked out for. We have seen this latest geopolitical threat in particular sort of squeeze all the shorts in the market even if you want to get short crude oil at the moment you won’t find it good on a risk reward ratio level.
The other thing I will highlight here is ETP flows into oil we at Berclays have been tracking this. It is close to USD 5 billion that have gone into oil as an ETP inflow and that is also adding in terms of a support levels and in terms of people trying to pick the bottom in oil as well So those are couple of other factors to look out for in terms of short term positioning inflows but overall we are still bearish.
Q: All the factors that you have laid out in the medium-term whether it is storage concerns in the US or the possibility of the Iran-US deal all of it is extremely bearish as you pointed out. How much lower could crude prices go? Have you guys worked out a numbers perhaps by the average in Q2 or by end of 2015 what would be your target on Brent as well as WTI?
A: There are quite a few symmetrical risks that get priced in our price forecast at the moment. We think Brent could easily fall into the USD 40-50 per barrel range again in terms of barrel per dollar and obviously with the WTI discount I would mean WTI in the late 30’s early 40’s that is the levels that we see as a point where you need that price at least for some of the low cost producers to actually make a good sizable return.
However, once Iran comes back into the market and that adds another million barrels a day short-term those price reactions could be fairly strong. So we would not put an outright number to it because it is throwing a dart. It is similar to the question when we get asked how much you think Libya is going to produce. Because it is very much a wild card I mean it will be a own nationalised company does not know how much they will produce. Even OPEC does not know how much they have produced but what we know is the call on OPEC crude is not as high as 30 million barrels per day. It is somewhere within the range of 29.6-29.7 million barrels per day.
At the moment very vital to note OPEC is not restraining production. The only reason they are producing at 30.2-30.3 million barrels a day is that they are having problems. Iraq is having loading issues, Saudi Arabia and Kuwait are also having the issues in terms of the neutral zone field that has been shut down all lot of these problems at the moment have actually led to cross the 3 million barrel per day of oil that is off the market and that is a part of the reason why we are still being in a range.
Q: The spread also between Brent and Nymex is now down to about USD 7.76? Do you see this getting squeezed further?
A: I would say in the short-term we will see it expand because Cushing Oklahoma is getting filled at the moment. Give it another ten weeks storage tanks in Cushing Oklahoma get filled to the brim. Once it gets filled to the brim we are adding close to a million to two million barrels of oil every single week in the US in Oklahoma. Once that gets filled and WTI pricing point gets filled it becomes a very tricky situation because you got all that oil in mid-west of the country and that this location with anything will expand.
Now that is our short-term view, after that Barclays thinks that we will see the spread narrow because if anything take the global picture where will the extra production cut come from that will be from the US. SO that is where you see the big adjustment coming from and that is where we see a widening going up to the third quarter-fourth quarter of this year and then we start narrowing again.
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