After trading broadly flat through March, crude oil prices dropped sharply in early April. The price of Kuwait Export Crude (KEC) fell from a peak of $107 per barrel (pb) on April 2 to just under $100 ten days later.
This was its first spell below the $100 mark since July 2012. Other global benchmark blends also scored notable declines. Brent crude fell $8 to $102, and stood some $17 below its February peak. The fall in West Texas Intermediate (WTI) was less steep – by $6 to $91 – and this blend remained slightly above its levels of early March.
The fall in prices seems to have been mostly generated by demand side factors. Firstly, oil demand is believed to have softened for seasonal reasons: the (northern hemisphere) spring period is typically the maintenance season for refineries, which reduces the demand for crude feedstock. Historically, Q2 quarter-on-quarter oil demand has fallen by around 1.6 million barrels per day (mbpd) relative to its trend. These regular demand patterns – although predictable – seldom seem to be 'priced in' well in advance.
More fundamentally, there have been downward revisions to oil demand forecasts by key international bodies such as OPEC and the International Energy Agency (IEA, see next section). These revisions were partly driven by soft economic news, including US jobs data, fresh anxiety over the European debt crisis and an economic slowdown in China. But they also reflect growing concerns over the long-run outlook for crude. Tougher environmental regulations, the end of the Chinese investment boom, structural weakness in developed markets and price-induced substitution effects in favor of alternative energy sources have seen 'peak oil demand' theories gain traction.
Oil demand outlook
In reality, the downward revisions to global oil demand growth in 2013 have not been dramatic. The IEA now puts growth at under 0.8 million barrels per day (mbpd), or 0.9 percent, slightly lower than in March though down from 1.1 percent at the start of the year. A key recent driver has been weakness in Europe, where they expect oil consumption to be at its lowest since the 1980s. The Center for Global Energy Studies expects global demand growth of 0.9 mbpd, some 0.2 mbpd lower than last month, while OPEC expects growth to be lower still, at 0.8 mbpd. These more downbeat projections have been supported by provisional data for the first quarter of 2013, which shows demand in OECD countries disappointing. China is expected to account for around half of total demand growth this year, though it too has seen a soft start to the year.
Oil supply outlook
Crude output of the OPEC-11 (i.e. excluding Iraq) inched up marginally by some 17,000 bpd to 27.3 mbpd in February, after dropping to a 15-month low in the previous month. The only significant production increase came from Saudi Arabia, where output edged up by 41,000 bpd to just over 9.1 mbpd (official figures point to larger gains of around 100 kbpd). Libyan output also saw a slight recovery in February, but is expected to slip again next month following the resurgence of protests at oil installations. Meanwhile, production in Nigeria – disrupted in recent months by oil spills, flooding and theft – slipped by a further 19,000 bpd. Iranian output remained unchanged from the previous month, despite the implementation of additional sanctions in February.
Total OPEC production (including Iraq) edged up to 30.3 mbpd, bringing a halt to five consecutive months of decline. Iraqi production witnessed the largest gain in OPEC, rising by some 58,000 bpd to 3.1 mbpd in February. The increase followed the completion of maintenance work at the Rumaila field, in addition to expansion of oil storage at the country's main export depot.
Non-OPEC supplies are projected to increase by as much as 1.7 mbpd in 2013, of which less than one fifth will come from OPEC NGLs. North American production is likely to lead non-OPEC supply growth, though there may also be contributions from the partial restoration of last year's lost output in other locations. In total, global supplies are expected to rise more modestly in 2013, following a rise in excess of 2 mbpd last year, as cuts in OPEC output partially offset stronger non-OPEC supplies.
Despite higher prices in the first quarter of 2013, oil market fundamentals are expected to loosen over the next three quarters, against the backdrop of a weaker economic outlook and stronger non-OPEC supplies. Based on a 0.9 mbpd increase in global oil demand, lower OPEC production and an aggressive 1.7 mbpd increase in non-OPEC supplies, global oil inventories could rise by a modest 0.4 mbpd in 2013. In this case, the price of KEC drifts down gradually for the remainder of the year from its 1Q average of $108, but remains supported at above $100 pb.
If, on the other hand, global oil demand grows slightly stronger than anticipated, then OPEC can maintain its current production longer. In this scenario, the price of KEC holds firm in 2Q13, but begins to gradually slip in the second half of the year. The delayed OPEC production cuts are likely to come in 2H13 in order to prevent oil prices from sliding further. Alternatively, non-OPEC supplies could come in at the higher end of expectations (1.9 mbpd), prompting OPEC to make more aggressive cuts. In this case, the price of KEC slides more rapidly in the next two quarters to near $100 pb, before stabilizing at year-end in response to lower OPEC production.
KEC prices averaged $107 pb for FY 2012/13, though closing budget figures for the fiscal year ending in March have not yet been released. Official numbers for the first 11 months show the budget surplus reached a record KD 18.8 billion, thanks partly to an unusual underspend in the large 'miscellaneous expenditures & transfers' segment. But spending could be revised up substantially in the closing accounts. Therefore, we expect spending to come in anywhere between 10-20 percent below the government's forecast, and last year's budget surplus could end up between KD 12.9 billion and KD 15.2 billion before allocations to the Reserve Fund for Future Generations (RFFG).
The projections for the current fiscal year 2013/14 are linked to our three scenarios, which yield oil prices within the range of $101 to $105 pb in FY 2013/14. According to press reports, budgeted spending for this fiscal year is set at KD 21 billion, although the number could subsequently be revised. Assuming that spending comes in at a more typical 5-10 percent below budget, we project a surplus of between KD 8.4 billion and KD 11.7 billion before allocations to the RFFG. This would equate to 17 percent-24 percent of forecast 2013 GDP, and would represent Kuwait's 15th successive budget surplus.