Here’s why crude prices may be nearing the bottom

The demand-supply equation, which was pushing global crude oil prices higher in the first half of 2014, has gone awry, with Saudi Arabia aggressively expanding output in a bid to maintain market share rather than cutting it to support prices as it had done for many years. Saudi Arabia’s aggressive stance stems from its bad experience in late 80s, when its production cuts to support oil prices helped other countries — including its Opec colleagues — make a killing, while it suffered 16 years of budget deficits.

Thus, it’s safe to assume that Saudi Arabia, as well as Opec, are unlikely to cut output in the near future. On the other hand, low prices may induce countries which are largely dependent on oil revenues, to increase production to the extent possible to balance their internal budgets. The most severe impact of low oil prices will be on unconventional oil producers, such as shale oil in the US and tar sands in Canada due to their high cost of production.



According to International Energy Agency, more than 20% of global crude output in 2013 was unconventional, which is expected to reach 33% by 2035. According to various estimates, about a third of the US daily shale oil production of 6.5 million barrel turns uneconomical if the oil price is below $80 a barrel. The price level is regarded as the bottom for Brent, the international oil maker. A recent Goldman Sachs report forecasts Brent hitting a floor of $80 a barrel in the second quarter of 2015, then rising to $90 in 2016 as US shale oil production slows down.