Geopolitical Risk Will Linger In Brent

BMI View : We have revised up our 2014 and 2015 average Brent forecasts to USD109.8/bbl and USD108.0/bbl respectively. A stalemate in the Iraq conflict will see lingering geopolitical risk to supply propping up prices. In addition, a disappointing supply picture will persist in Europe, the Middle East and Africa, supporting prices in 2014 and 2015. WTI will be supported by elevated Brent prices. This, along with our view for robust US demand in the coming quarters, has prompted us to revise up our 2014 WTI price forecast to USD102.0/bbl.

Brent

Geopolitical Risk Priced-In

Iraq Sees Break In Brent Prices
Daily - Front-Month Brent Crude, USD/bbl

Geopolitical Risk Will Linger In Brent

BMI View : We have revised up our 2014 and 2015 average Brent forecasts to USD109.8/bbl and USD108.0/bbl respectively. A stalemate in the Iraq conflict will see lingering geopolitical risk to supply propping up prices. In addition, a disappointing supply picture will persist in Europe, the Middle East and Africa, supporting prices in 2014 and 2015. WTI will be supported by elevated Brent prices. This, along with our view for robust US demand in the coming quarters, has prompted us to revise up our 2014 WTI price forecast to USD102.0/bbl.

BMI and Bloomberg Consensus Forecasts* For WTI and Brent, USD/bbl
2014 2015 2016 2017
WTI - Bloomberg Consensus 101.3 99.0 94.7 94.0
WTI - BMI Forecast 102.0 99.0 96.0 94.0
Brent - Bloomberg Consensus 109.8 104.7 103.0 100.0
Brent- BMI Forecast 109.8 108.0 101.0 99.0
* BMI is a contributor to Bloomberg Consensus. Source: Bloomberg, BMI

Brent

Geopolitical Risk Priced-In

We have revised our 2014 Brent average price forecast to USD109.8/bbl from USD108.0/bbl previously. Our new forecast assumes an average price of USD110.6/bbl for the remainder of the year.

The rapid advance into Iraq of the Islamic State of Iraq and the Levant (ISIS) has seen a large risk-premium priced into Brent. While the price has retracted in recent days, the sustained trading in the range of USD115-USD110/bbl, would have implied an average for the rest of 2014 of USD107.0/bbl under our previous forecast, which we deem unlikely.

Iraq Sees Break In Brent Prices
Daily - Front-Month Brent Crude, USD/bbl

We expect a stalemate in Iraq will see a risk-premium of about USD2-3/bbl linger in the prices over the coming months despite the unlikelihood of a physical threat to supplies ( see, 'No Immediate Threat To Oil Supply,' June 17). Tense markets will increase the trading volatility.

Stalemate To See Risk-Premium Remain
Iraq - Map of ISIS Geographical Presence and Key Oil Infrastructure

Supply Problems Persist

Brent prices will also remain supported by an underwhelming oil supply outlook. The difficult supply conditions in major producers already prompted an upward revision to our annual average 2014 Brent price forecast in May 2014 ( see, 'Supply Issues Weigh Heavy On 2014 Forecast,' May 30).

Taking into account Iraq, we expect the tightness in the market to continue well into 2015 and we have raised our 2015 average Brent price forecast to USD108.0/bbl to reflect this expectation. Supply problems include:

  • Libya: High volatility in Libyan output over the next six to eighteen months, stemming from ongoing political instability;

  • Kazakhstan: Production shutdown in Kashagan until late 2015 (in a best-case scenario);

  • Iraqi Kurdistan (KRG): Challenges in increasing Iraqi-Kurdistan exports;

  • Iraq: Smaller 2015 production ramp-up than previously expected, due to the unstable domestic security and political situation.

Downside Risks

The Brent price has come off its multi-month highs, trading at USD110.6/bbl at the time of writing. News that the Libyan rebels stated they would reopen the Es Sider and Ras Lanuf ports in a gesture of support for the newly elected parliament put downward pressure on the Brent price. Given the repeated breakdown in negotiations in the past however, we are not taking into account a durable return of Libyan oil to the markets and consider this a downside risk to our forecast at this point.

We reiterate the ongoing Iranian nuclear negotiations as another potent downside risk to Brent in 2015. We expect 2015 will likely be the make-or-break year for a deal on the Iranian nuclear programme and a subsequent lift of oil-related sanctions. While we expect the September Geneva Interim Agreement to be rolled-over for another six months in July 2014, an extension past 2015 would be politically difficult to justify and is unlikely in our view.

Main Risks To Brent Price Forecast For 2014/2015
Upside Risk Downside Risk
Russia: Re-escalation of military tensions between Ukraine and Russia threatening energy flows Libya: Reopening of Es Sider and Ras Lanuf oil ports (+560,000b/d)
Iraq: Increased sectarian violence and/or an advance of ISIS into the South, leading to supply disruptions (-2.5mn b/d) Libya: Restart of the El Sharara field (+340,000b/d)
Nigeria: Production normalisation (+200,000b/d)
Iraq: Export Agreement Between Baghdad & Erbil (+250,000b/d)
Iran: Lifting of oil export sanctions by international community (+1mn b/d)
Source: BMI

WTI: Iraq Adds Fuel To A Strong Demand Picture

The Iraqi risk-premium priced into Brent will also be reflected in WTI prices for the rest of 2014. Along with our view for robust US demand in the coming quarters, this has prompted us to revise up our 2014 forecast to USD102/bbl from USD99/bbl previously. Our new forecast assumes an average price of USD103/bbl for the remainder of the year.

Iraq Drives WTI Increase
Daily - Front Month WTI, USD/bbl

Several factors will bolster demand and provide support for WTI:

  • Strong Driving Season: The US Energy Information Agency (EIA) expects a strong driving season in 2014. DOE motor gasoline total inventory data show that June gasoline inventory level of 213mn bbl is already lower than the 225mn bbl recorded in June 2013, despite record refining utilisation rates in June 2014. This highlights particularly strong gasoline demand, providing support for WTI prices over the coming months.

  • Recovering US Economy: More robust US economic growth will support our view for stronger demand. While our Country Risk Team has lowered the US average growth forecast for 2014, this is largely due to the isolated effect of a weak Q114 figure. We maintain that growth will pick up steam over the course of the year, providing support to oil demand and WTI prices.

  • Refining Capacity Increase: We expect this to continue in 2014 and 2015, which will see increased demand for WTI remain high. Spurred by the domestic shale oil boom, US crude oil refining capacity grew by 101,000b/d in 2013 according to the EIA, with incremental capacity increases at several refineries.

  • US Condensates/Crude Exports: As a result of a strong ramp-up in US crude production, the country exported 268,000b/d of crude oil in April, the highest level of exports in 15 years. In addition, a recent ruling by the Bureau of Industry and Security supports our view that the US will see greater condensate exports over the coming years. Export increases could ease the risks of the US reaching the crude wall, which we had highlighted as the largest downside risk to WTI prices ( see, 'Small Steps Toward Greater Condensate Exports,' June 26).

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