I can’t say I didn’t tell you but now that the price of oil is going up and down like a yo-yo, it has many investors spooked. On the one hand, you have investors saying that the price of oil will probably hit $20 to $30. On the other hand, you have investors who are excited because they feel that the price of oil would zoom right back to $100 or even $200.
The good news is that you shouldn’t let oil price spikes spook you. Just like with any kind of commodity pricing cycle, there will be price spikes but the reality is the price of oil will continue to trend downwards. There are several structural and large-scale factors working against oil hitting the $100 per barrel mark again. I’m not saying that’s impossible, but the headwinds that we would have to overcome are quite strong. Here are just some of them.
Shale oil “ceiling”
If the global price of crude oil keeps inching closer to $100 per barrel, what do you think will happen? Do you think oil producers will keep their present volume? No. Small oil producers will spring into action. We’re talking about North American shale oil producers. While the story is not the same with oil strippers, shale oil operations are very easy to mothball and put up again. Once they have the right permits, it’s game on. While the number of new oil permits have gone down in the United States, there are already a lot of current oil permits out there to enable a resurgence in shale oil production. The closer oil gets to $100 per barrel; the more shale oil fields will reopen, and this will make the price of oil crash closer to $50 again. Consider this the shale oil “ceiling.”
Oil producers are eager to overcompensate
The problem with high spikes in oil prices is that existing oil producers would be eager to make back their losses. What this means is that they are eager to overproduce. They feel that they have lost all this revenue when oil was below $50, and now they have to make up for lost time. When this happens, the world gets flooded with even more oil and this puts even more downward pressure on the price of oil. Sure, the price can spike up but there’s a strong downward pressure because of all these producers chasing after “lost” profits.
Global economy is slowing
The first two issues I raised above all impact supply. There is a third factor, and it’s all about demand. While the global demand for oil is still growing, the global economy is still slowing. The demand is not growing so fast that it soaks up all the available supply. That’s not happening. In fact, the reverse is happening. The rate of demand is slowing even further as the global economy continues to cool. If you need proof of this, you only need to look at the slowing growth rate in China. China just logged its slowest growth rate in over two decades. Things are definitely slowing down as far global economic growth is concerned. This translates into slower and lower global demand for petroleum products.