Column: Goldman calls time on the oil bull market - John Kemp

LONDON Thu Oct 18, 2012 7:32pm IST

A worker holds a fuel nozzle at a petrol pump in Mumbai June 11, 2010. REUTERS/Danish Siddiqui/Files

A worker holds a fuel nozzle at a petrol pump in Mumbai June 11, 2010.

Credit: Reuters/Danish Siddiqui/Files

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LONDON (Reuters) - For much of the last decade, energy researchers at Goldman Sachs have been among the most influential and bullish forecasters in the oil market, predicting, much of the time correctly, that prices would continue to rise.

Like others, the bank failed to foresee the cataclysm that overtook the market in late 2008. But it won respect for correctly predicting the smaller downturn in prices ahead of the flash crash in May 2011.

Both its short term and medium price views have been hugely influential, especially among hedge funds and institutional investors.

So the bank's decision to call an end to the structural bull market and predict that oil prices have levelled off could herald a much more widespread reconsideration of the medium and long-term price outlook.

"There is increasing evidence of an important structural shift in the crude oil market that will likely keep Brent crude oil prices range-bound over the long-term," the bank wrote in a landmark note published on Wednesday ("Energy Watch: A cyclically tight but structurally stable oil market" Oct 17).

"This holds out the potential that as the economic recovery continues, the oil market will remain structurally stable, like the oil market of the 1990s, but with long-dated prices anchored near $90 per barrel rather than $20 per barrel, rather than return to the structural bull market of 2003 - H12008."

Spot prices could still remain elevated by short-term concerns over supplies. The spot market is expected to stay above long-dated futures prices much of the time: the bank forecasts Brent will average $110 per barrel in 2013, though that is down from its previous forecast of $130.

But long-dated prices themselves are set to remain steady and provide an important anchor for the market.

"We believe the potential for substantial growth in crude oil supplies from U.S. shale, Canadian oil sands, and the deepwater holds the potential to keep long-dated prices stable," Goldman explained.

In some ways the bank is reacting to, rather than leading, a change in consensus thinking. Goldman is not the first forecaster to suggest prices might be levelling off. Most other major banks active in the commodity markets have already tempered their bullishness about continued price rises.

Fears about peaking oil production, which animated many forecasters and investors between 2004 and 2008, have long been allayed by the shale boom and a growing recognition of the almost unlimited supply of liquid fuels at prices below $100 per barrel from tight oil, tar sands, deepwater and technologies such as gas to liquids and coal to liquids.

But Goldman was the most high-profile bull, and its conversion to a more neutral long-term stance marks a big shift in the debate. It also opens up an intriguing contrast with the other big bulls, especially the research team at Barclays Capital, which continues to see upward pressure from the rising marginal cost of exploration and production.


Barclays, and some others such as Bernstein, point to rising break-even prices for major projects, and believe the impact of shale oil will be too small to have a significant impact on aggregate supply costs.

But Goldman sees shale and other technologies having a bigger effect: "While much of the oil industry continues to struggle with the same problems of high and rising decline rates on existing production and high break-even prices on new production ... successful deepwater exploration and the revolution in U.S. shale oil production are increasing the amount of oil production that can be brought to market between $80 and $100 per barrel."

"We could be seeing the emergence of an oil market regime where long-dated Brent crude oil prices are anchored by the cost of new technology, like U.S. shale oil, with shale oil production and the use of strategic reserves filling the role of swing supply."

Unlike the mega projects beloved by the oil majors, the bank explains, shale production is far less capital intensive and can be added incrementally and much more quickly.

The divergence among former oil bulls should open up a long-overdue debate about the influences driving supply costs in the medium term: tensions in the Middle East, resource nationalism and the increasing complexity of drilling environments offshore and in the Arctic, versus the potential for technology and innovation to cut costs and improve efficiency.

Many of the big institutions active in commodity markets have already started to shift their investment strategies from a passive long-only approach, designed to benefit in a secular bull market, towards more active market-timing systems that aim to add value if oil and other commodity prices remain range bound and benefit from roll yields.

Goldman's conversion is likely to accelerate that trend.

(Editing by Anthony Barker)

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