The price of oil appears poised to continue to rally after a number of bullish comments by OPEC at the start of the week. The leading catalyst is the organization's recently released oil market report, in which it slashed its expectations for U.S. oil production for 2016. In addition to that, the oil ministers of Kuwait and Qatar both offered bullish comments on oil.
The run is done
As it stands right now, 2016 will mark the end of an era for U.S. oil production as the eight-year run of production growth is expected to end. This is after OPEC slashed its production forecast by 280,000 barrels per day for next year, leading to a year-over-year decline of 60,000 barrels per day instead of its previously forecasted modest gain. This decline comes on the heels of major cuts in capital spending by U.S. oil producers, with the cuts so deep that spending is no longer enough to maintain, let alone grow, production.
We've already seen U.S. oil production roll over as the rapid drop in the U.S. rig count is yielding fewer wells and therefore lower production.
US Crude Oil Field Production data by YCharts.
Still, despite the lower rig count and the slump in production, U.S. oil output is still higher now than it was a year ago as producers used a combination of oil hedges, cost savings, and a large backlog of wells to keep production growing. That resilience isn't expected to continue in 2016 as OPEC no longer expects U.S. oil producers to be able to keep up.
In addition to falling oil supplies in the U.S, OPEC sees supply sinking in most other non-OPEC countries. It now sees worldwide non-OPEC crude supplies falling 720,000 barrels per day in 2016, with the bulk of this drop expected to come from Russia and its former states.
The running of the bulls
Given this outlook, OPEC members are starting to become more bullish on oil prices heading into next year. In its monthly report, OPEC noted that falling supplies "should reduce the excess supply in the market... resulting in more balanced oil market fundamentals." Those improved fundamentals should lead to better oil prices as Kuwait's oil minister, Ali al-Omair, saw this as a sign of better days ahead. As he told Reuters, "There are indications that a lot of high-cost oil production (i.e., U.S. shale) is starting to get out of the market and this will help improve prices."
In letting oil prices drop, OPEC not only caused U.S. oil production growth to derail, but lower prices led to an acceleration of oil demand in both developing and emerging markets. OPEC now sees demand accelerating by another 40,000 barrels a day above its previous forecast, as it now expects demand to grow by 1.5 million barrels per day next year.
As a result, the "call on OPEC oil is expected to become healthier," according to comments by Qatar's energy minister, Mohammed Al Sada. In other words, OPEC is winning twice: It is not only knocking out rivaling production, but lower prices have improved demand for its own oil. As such, it sees the demand for its oil growing from 29.3 million barrels a day in 2015 to a forecasted 30.8 million barrels per day next year.
Having said that, OPEC has been pumping out record levels of oil, with production topping 31.57 million barrels per day in September. This suggests OPEC might still need to back off on its own production in order to fully benefit from higher demand for its oil.
Investor takeaway
After a really rough 2015, the oil market is starting to look a lot better as we head into 2016. OPEC is starting to see a tangible benefit from its market share protection strategy, which it now expects will pay off with higher demand and a higher price for its oil next year.
Higher prices are, of course, welcome news for U.S. producers as they could really use the cash to bolster their weakened balance sheets, with improvements also helping to boost their beleaguered stock prices.
