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Where Are Oil Prices Heading?

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Excess supply

While this issue is more idiosyncratic, it has been one of the key factors hurting energy prices, particularly crude oil prices. Despite a precipitous decline in the US rig count, greater efficiency has allowed US domestic production to rise by roughly 500k barrels since the end of 2014, according to Bloomberg data. In addition to still-robust US production, investors have had to contend with rising supply from the Middle East as well as with the prospect of even more supply from that region. With the pending Iran deal, other Middle Eastern producers appear to be ramping up production in an effort to defend market share. Thanks to rising production from Saudi Arabia and Iraq, Organization of Petroleum Exporting Countries (or OPEC) production is up more than 1.5 million barrels per day since the start of the year, according to Bloomberg data.

Where Are Oil Prices Heading?

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Market Realist: Where are oil prices heading?

The US energy renaissance has been a game changer in the crude oil (USO) space. As the graph above shows, crude oil production has increased in the last five years. In fact, the US could soon overtake Russia (RSX) as the highest non-OPEC oil producer.

Meanwhile, in order to defend their market share, Middle Eastern producers haven’t reduced their production—even with the slump in oil prices.

On the other hand, demand remains low, as we discussed earlier in this series. Lower demand and high supply has led to lower energy prices. This is likely to continue and will probably keep prices down.

WTI crude oil prices dipped by ~18% in July. Oil prices are expected to be lower for longer. This is bad news for high yield bond funds (HYG) (JNK) in the United States. A total of 15% of all high yield bond issuers belong to the energy sector (XLE). The sector has by far been the worst performer in the current earnings season.

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