Brent crude edged up over $40 a barrel on Monday, reaching its highest point since mid-December amid expectations that U.S. oil production will fall and hope that an OPEC production freeze will lead to a cut later.
But some market forces behind the rally are likely overblown, analysts say, and if crude prices continue to rise, it could prompt U.S. oil drillers to hedge their production and curb an expected decline in their output this year.
A “large portion” of the price climb in recent weeks has come because of recent headlines about the production freeze agreement between OPEC, Russia and other producers and because the value of the dollar has declined, making it cheaper for foreign buyers to purchase crude, Morgan Stanley said in a client note Monday.
“Oil can continue to rally, but the upside should be limited by bloated global inventories and producer hedging,” Morgan Stanley analysts said.
Morgan Stanley said the oil rally appears similar to the “false” climb in crude prices that happened in the second quarter of 2015, when crude prices rose from the mid-$40s to around $60 a barrel. “The 2015 oil rally offers a warning,” Morgan Stanley said.
U.S. crude on Monday climbed $1.64 to $37.56 a barrel in mid-day trading on the New York Mercantile Exchange. Brent, the global oil benchmark, rose $1.87 to $40.59 a barrel on the ICE Futures Europe.
A higher oil price, analysts say, could delay the oil-market rebalancing that OPEC and others believe needs to occur for crude production to realign with global demand. The Organization of Petroleum Exporting Countries believes U.S. crude production will fall by some 700,000 barrels a day this year, which could be enough to correct the oversupply later this year or next year.
U.S. production could remain steady this year if oil prices hold around $43 a barrel, Raoul LeBlanc, an analyst at IHS, had said last month at the premier energy industry conference IHS CERAWeek in downtown Houston.
Over the past several weeks, crude prices have been rising despite rising oil inventories as traders hope that the agreement between OPEC, Russia and other producers will lead to a production cut.
“This is when words speak louder than action,” said Andy Lipow, president of Lipow Oil Associates in Houston. “OPEC members are trying to take steps to shore up prices. The market knows the freeze isn’t restraining production but they think it may be the first step toward a (production) cut.”
Saudi Arabia oil minister Ali Al-Naimi in February said a production cut isn’t coming, explaining he would rather see the market naturally wipe out inefficient oil producers.