In case you missed it, something snuck in the back door: A gradual, but persistent increase in oil and natural gas prices. Take a look at West Texas crude oil quotes from the CME Group in the chart below.
Crude oil prices bottomed in February 2016 at $31 per barrel. In September 2018, the price averaged $70 per barrel, more than double the low point in 2016. And this week’s contract for November 2018 delivery is trading around $70 per barrel. The European quotes of Brent crude oil is about $83 per barrel today.
Natural gas prices have also firmed up considerably. After bottoming out in March 2016 at $1.70 per million BTUs (mmbtu), gas prices averaged $2.97 in September 2018 and are trading this week at $3.33.
What is causing this firming in prices? For one, global economic growth has been robust. The U.S. economy grew by 4.2% in Q2 2018 (seasonally adjusted annual rate) and over 3% for the first half of this year. European economic growth has been moderate, while China is reportedly growing over 6% on a year-over-year basis. With this strong economic growth has come increased energy demand. Iran’s exports of oil, given renewed sanctions, are projected to diminish, thereby adding to supply constraints.
It is not likely that U.S. shale oil production is causing a constraint on supply. The Baker Hughes oil rig count, a measure of activity in the Permian Basin and other shale oil fields, remains quite high, as the chart below shows. While not back to the peak in May 2016, it has more than doubled since then. Rig counts are imprecise measures of supply activity since the technology has advanced and the advent of “walking rigs” as well as more extensive horizontal drilling means that this level of rig counts is quite substantial.
The Energy Information Administration (EIA) at the U.S. Department of Energy reports that oil production from these shale fields added up to 7.5 million barrels a day in September 2018, up from 6.0 million barrels a day a year ago. These drilling productivity reports can be found here.
EIA’s latest short-term energy outlook was released on October 10, 2018. The table below includes a summary of price forecasts. EIA analysts are projecting a “more of the same” outlook with pricing relatively stable during the next 15 months.
Even with a benign outlook for energy prices, renewables consumption in the U.S. continues to grow, with competitive pricing contributing to its attractiveness. There is a gradual, upward trajectory, as seen in the chart below, with growth projected to be 5.8% in 2019, following 2.6% growth this year.
To the extent that these firm prices embed expectations about two developments — ongoing supply to offset the off-take of Iranian oil from the market, as well as continued growth in the global economy — there are few reasons to anticipate a downward shock. Indeed, a major slowdown in China, the U.S., or Europe could serve to put downward pressure on prices next year. Incoming indicators do suggest a slowdown in China’s economic growth is unfolding with concerns the trade war could exacerbate the already soft pace of economic activity there.