Did OPEC tank the oil market again?

What a wild week in the energy world! Crude oil, already in the doldrums, is selling off on renewed fears of oversupply in the market. Natural gas producers can’t give the stuff away. And world leaders just adopted a major agreement on reducing greenhouse gas emissions.

OPEC Tanks the Oil Market

Haven’t we seen this movie before? About a year ago, members of the Organization of Petroleum Exporting Countries agreed to hold production steady, even though surging output in the U.S. had pushed the price of a barrel of crude down to about $70. That decision, though unsurprising to us at the time, sent the price spiraling down as traders came to grips with the reality that the oil cartel was not going to bail out the market by cutting production.

OPEC’s most recent nondecision looks like a rerun. With West Texas Intermediate crude trading between $40 and $45 per barrel, the group again opted not to curb output to prop up prices, even though markets are still oversupplied. Once more, we had expected as much. But the failure to act has again roiled markets, with WTI tumbling to about $35 per barrel — the lowest point since February 2009, in the depths of the Great Recession.

Is this the bottom for crude prices? This is a question that readers often ask. Making predictions about short-term market moves is dicey, but our guarded answer usually boils down to this: “We don’t know. But we wouldn’t bet on it.” With markets so volatile, and with so many factors working against a recovery in oil prices, we’ve warned in recent weeks that a brief but sharp drop below the $40-per-barrel level was a real possibility.

As to where prices go from here, our best guess is the bottom is getting close, if we haven’t hit it already. Despite all the cost cutting and efficiency gains that have been achieved by energy firms working in shale oil fields, we suspect that very few wells are profitable at $35 per barrel. And the shale industry seems to be reaching the same conclusion. The latest data from drilling services giant Baker Hughes show that the number of rigs actively drilling for oil continues to drop. At 524 active rigs, the total is down by two-thirds from this time last year.

U.S. output is gradually falling. Pinning down just how many barrels of oil are produced each day is tough, but the latest weekly data from the Department of Energy peg the figure at a hair less than 9.2 million barrels per day. That compares with the recent peak of almost 9.6 million barrels pumped each day during April. We look for output to continue its slow decline well into next year.

Production outside the U.S. is still robust, and probably will stay that way for now. But we expect the latest price drop to start hurting global output sometime next year. The International Energy Agency reckons that virtually all growth in world oil production is coming from OPEC now, which suggests that the cartel’s strategy of driving higher-cost rivals out of the market is starting to work. But even OPEC members might struggle to keep pumping flat out when oil revenues are down substantially. Political turmoil in Venezuela, Libya or another OPEC nation could lead to output cuts sometime in 2016.

The bottom line: The supply glut isn’t about to clear up. But it doesn’t look likely to worsen substantially next year, unless the global economy experiences a sharp downturn that crimps oil demand. Barring that scenario, the downward pressure on crude prices should lessen in 2016.

El Niño Wallops Natural Gas Prices

Natural gas isn’t faring any better than crude oil these days. After trading mostly between $2.50 and $3 per million British thermal units (MMBtu) for much of this year, the benchmark gas futures contract has tumbled to below $2 per MMBtu on fears that a mild winter will suppress heating demand. Gas stockpiles soared to a record of slightly more than 4 trillion cubic feet earlier this fall, and without some cold weather to burn off some of that bounty, traders figure the gas market will be plagued by oversupply next spring.

We don’t see much relief for gas bulls in the near term. The normally gas-hungry Northeast has been seeing record warmth recently, with no sign of an imminent change in the weather pattern. Winter hasn’t officially started yet, but this season looks to be shaping up as a classic El Niño winter: lots of precipitation hitting the West Coast (good news for the region’s drought) and mild weather across much of the northern tier of the country.

But we see some reasons to believe that gas prices should eventually move higher. For one, gas demand figures to be stronger than the warm weather would suggest. In addition to heating homes, gas also powers many of the nation’s electric plants. And in 2015, electric utilities are ramping up gas consumption as new clean air rules prompt the retirement of many coal-fired power plants. So far this year, the electric sector is burning 18.5% more gas than it did during the same period last year. That trend will probably intensify, no matter what the weather is.

Also, the U.S. is importing less gas and exporting more of it. Most of those added exports are going to Mexico via pipeline, but Cheniere Energy of Texas plans to soon begin shipping cargoes of liquefied natural gas to overseas markets. And gas production is no longer surging the way it was earlier this year. According to the most recent weekly data, gas output actually fell slightly from its level of one year ago. Early in 2015, output was rising at a 10% annual pace. (As with oil, gas drilling activity has slowed sharply.)

Those factors should help whittle down gas stockpiles. If the winter of 2015-2016 ends up being as warm as 2011-2012 (one of the warmest on record), we calculate that the combination of weak demand for space heating and strong demand from power plants will push gas held in storage down to about 2.4 trillion cubic feet. That’s high for the end of winter, but not unprecedentedly high (March of 2012 saw a similar level). We reckon that would dispel fears that the country might run out of storage space next spring, when stockpiles start growing again.

We look for natural gas prices to rebound modestly by winter’s end, to between $2.50 and $3 per MMBtu. Unless, that is, this El Niño winter ends up exceptionally balmy.

Paris Climate Negotiators: D’Accord!

As we predicted a month ago, the UN meeting in Paris on efforts to rein in emissions of greenhouse gases did indeed produce a deal. And environmentalists are celebrating.

But it’s important to note the actual details. Negotiators agreed to try to limit future emissions so that global temperatures rise less than 2 degrees Celsius from preindustrial levels. In fact, they resolved to shoot for limiting the increase to 1.5 degrees if possible.

The goals sound impressive. But the emissions cuts that the signatories committed to won’t reach those targets, assuming that the UN’s projections on greenhouse gas levels and temperature are correct, according to the Netherlands Environmental Assessment Agency. Keeping future temperature increases below 2 degrees (let alone 1.5 degrees) would require dramatic reductions in global emissions. The pledges made in Paris jointly add up to simply slowing the growth in emissions, if they’re implemented as promised.

For environmentalists and anyone else concerned about climate change, Paris will likely be seen as a good start. It certainly won’t be the end.

How much will you pay for energy this winter?

Two weeks ago, we explained why we believe low oil prices are here to stay. Today, we lay out our expectations for the energy prices that consumers can expect to pay this winter. The bottom line: Trips to the gas station and winter heating bills should be bearable for most folks during the cold-weather months.

Pump Prices: Under Control

At $2.04 per gallon, the national average price of regular unleaded gasoline probably can’t fall too much further. But considering it’s down about 75 cents per gallon from this time last year, most drivers probably won’t complain. Though we think the national average will probably bottom out around $2 per gallon, a big rebound looks unlikely. Figure on regular unleaded averaging in the low-$2 range until midwinter, before prices start climbing in anticipation of the spring travel season and as refiners begin to switch over from making winter-blend gas to the summer variety (which costs a bit more to make).

Even the run-up we expect to begin in late winter or early spring should be tame, with regular unleaded climbing to about $2.50 per gallon or so by the time warm weather returns. Expect a similar path for diesel, with the current average price of $2.42 per gallon slipping below $2.40 before gradually trending higher over the course of the winter and reaching about $2.75 during early spring.

Heating Fuels: Abundant

Whether you heat your home or business with heating oil, propane or natural gas, you’ll benefit from ample supplies that should ward off any big price spikes this winter. Stockpiles of propane are at a record high and could even keep growing in coming weeks. Supplies of distillates, which include both diesel fuel and heating oil, are plentiful both in the Northeast (where most heating oil customers reside) and in Europe (where oil is a widely used heating fuel).

While we expect both propane and heating oil prices to gradually creep up over the course of the winter, the prices users pay should average lower than last winter. For propane, figure on about 15 cents per gallon less; for heating oil, about 50 cents per gallon less. (But note that regional prices can vary widely because of supply chain factors.)

Natural gas storage facilities are brimming. The Department of Energy reports that gas held in underground storage now stands at 4 trillion cubic feet, the most on record. That glut and the outlook for a mild winter in much of the country has sent benchmark gas prices down, and end users are also paying less for natural gas than they did a year ago. That should continue through winter, welcome news for the roughly half of households that heat with natural gas.

Electric Rates: Leveling Off

After declining in the aftermath of the Great Recession, electric rates rose steadily each year after 2012. But that trend is now in reverse, with utilities that burn an increasing amount of natural gas to generate power passing along the savings from cheap gas to ratepayers. We look for commercial and industrial customers to pay slightly less on average for power this winter than they did during the comparable period a year ago. Residential rates, which had been climbing fastest, should hold flat.

The Geopolitical Picture

Though we look for oil prices to continue trading between $40 and $45 per barrel into early winter, a price spike can’t be ruled out entirely. But it would probably take a major crisis in the Middle East to cause one. The price of crude did jump a bit last week when Turkish fighter jets shot down a Russian bomber. Turkey isn’t a major oil producer, but a good deal of oil from the Middle East and Russia does pass through Turkish pipelines or Turkish waters on the way to Europe, so a confrontation between Ankara and Moscow does raise some legitimate fears for the oil market. (Still, the price run-up subsided once the initial war fears calmed down.)

Barring a full-blown crisis, we don’t see crude prices moving much higher. Despite all the chaos in the Middle East and growing worries about Islamic terrorism, oil production in the region remains robust. Libyan output is down because of the country’s continuing civil war, but OPEC members such as Saudi Arabia are pumping as fast as they can. Unless new fighting threatens a major oil field or export terminal, traders will likely continue to shrug off the carnage. Expect oil prices to trend only a bit higher during the winter, with U.S. crude reaching about $50 per barrel toward spring.

Oil producers are hoping that OPEC will agree on output cuts to prop up prices when the group meets this week. But we think they’ll be disappointed. Oil-rich countries that are suffering from crude’s price swoon are calling on Saudi Arabia to curb its output, a move the kingdom has made in the past when global oil supply and demand were out of sync. Now, the Saudis say they’re unwilling to cut production unless other big producers join them, and we think that odds of such an agreement aren’t good.

Tensions within the oil cartel are already high as rivals Saudi Arabia and Iran back opposite sides in the conflicts in Syria and Yemen. Russia, which exports about as much oil as Saudi Arabia does but isn’t a member of OPEC, has aligned itself with Iran, further polarizing relations among the world’s oil powers. We believe it would be awfully hard to forge an agreement among such fractious negotiating partners, especially when every oil exporter is already producing as fast as possible to maintain market share at a time when global oil demand looks shaky.

Should OPEC reach a deal to cut production, the resulting price increase would spur U.S. producers to ramp up again. The lesson of the last few years has been that American energy firms can quickly increase their output when oil prices are high. Even amid a big price drop, those companies are finding ways to hang on, mostly by cutting their costs wherever possible. And if they can survive at $45 per barrel, you can bet that they would thrive at the $60 or $80 per barrel that many oil exporters would like to see.

What you can expect from the Paris climate talks

In less than a month, negotiators from all over the world will convene in Paris to thrash out an agreement for limiting future emissions of greenhouse gases in a bid to counteract the effects of climate change. The meeting is billed as critical to avoiding what could be a devastating increase in global temperatures; hopes for a significant agreement are high. But realistically, what can we expect to come out of the Paris summit?

Environmentalists: Temper Your Expectations

We recently had the opportunity to sit in on a meeting convened in Washington, D.C., by a prominent environmentalist group that will be taking part in the Paris climate talks. Most of those in attendance were members, donors, environmental activists and the like, but we were permitted to observe, on the condition that we not quote anyone or name any names.

The purpose of the meeting was to brief attendees on what to expect (and not expect) from Paris. There was plenty of optimism, but the biggest takeaway was this: Do not look for the world to agree to cut emissions by enough to avoid the temperature rise of 2 degrees Celsius that climate scientists say must be prevented.

Coming from an organization that views fighting climate change as an urgent mission, that was a pretty sobering admission. But also an understandable one.

The last big United Nations climate confab, held in Copenhagen, Denmark, in 2009,ended without an agreement because countries such as China were not willing to commit to emissions cuts that would hamper their figure economic growth.

No doubt many climate activists hope that the Paris talks will prove to be more productive. But the realists, such as the presenters at the meeting we attended, understand that any deal reached in Paris will be a modest one, at best.

Broader reductions in emissions are not in the cards. Avoiding the 2-degree temperature rise that climate scientists fear would require a truly massive reduction in worldwide greenhouse gas emissions. The figure we heard was an 80% reduction from 1990-level emissions by the year 2050. Cutting emissions that much and that quickly is a daunting task, and a goal that very few countries will commit themselves to now.

So what will come out of Paris?

Some type of agreement calling for emissions cuts is likely. Odds seem good that the countries in attendance won’t leave empty-handed. In fact, dozens of countries that will be attending have already rolled out various promises to reduce emissions or at least slow the rate at which their emissions are growing. At the risk of oversimplifying, we figure that Paris will produce an agreement to lower worldwide emissions by an amount roughly equal to those combined pledges.

Furthermore, negotiators will probably make progress on some notoriously difficult technical hurdles, such as how to set up systems for measuring and financing the emissions cuts that each country promises to make. That likely means agreements on how to set up cap-and-trade systems, in which various countries jointly agree on an emissions reduction target and then issue emissions permits to industrial companies that reduce allowable emissions over time.

There’ll be a lot of talk about how to pay for reining in future emissions. But we suspect agreement on that front will prove harder. Any concerted global effort to lower greenhouse gas emissions is going to cost tens or hundreds of billions of dollars. Deciding who contributes what to that effort has already proved acrimonious, and promises to remain so. Many developing countries argue that wealthy developed countries (which are responsible for most greenhouse gas emissions to date) should foot the bill. That’s an argument that won’t be settled anytime soon.

The bottom line: Expect a pact that moves the world closer to curbing emissions but that falls far short of what climate activists want.

Meanwhile, Closer to Home…

While the world gears up for another push to reach a grand bargain on climate change, the U.S. is making rapid progress on cutting its own emissions. When he goes to Paris (and our sources indicate that he will attend), President Barack Obama will no doubt highlight the regulations that his administration has developed to curb carbon dioxide from U.S. power plants. Those regulations, known as the Clean Power Plan, call for a 30% reduction in those emissions compared with the 2005 level and give Obama some credibility when he tells other countries that the U.S. is serious about fighting climate change.

The fate of Obama’s climate regulations is uncertain, not least because quite a few states are suing to block them. But U.S. emissions are likely to be down sharply this year anyway. Why? In a word: Coal. More accurately, the continued decline of coal as a power source.

This year, we look for coal usage to drop to its lowest level in about three decades. Through the first seven months of 2015, consumption was off 13% from the same period of 2014. If that rate continues through year-end, annual coal usage for all of 2015 would come in at a shade under 800 million tons. That would be slightly less than the total for 1985 and a far cry from the 1.1 billion tons burned a decade ago.

Chalk it up to a combination of tougher air quality rules on power plants and bargain-basement prices for natural gas, which is now trading near $2.25 per million British thermal units. Power plant operators are under regulatory pressure to reduce emissions of toxic substances such as mercury. Switching to natural gas helps them do that, since gas burns much more cleanly than coal. The low price of gas makes the switch particularly attractive. And because natural gas releases about half the carbon dioxide of coal for a given unit of power generated, the displacement of coal by gas means U.S. emissions in 2015 should come in at their lowest level in many years.

We still look for natural gas prices to perk up. But any rebound is going to be slow to materialize. With long-term forecasts favoring a mild winter and stockpiles of gas nearing record levels, prices are going to stay depressed in coming months, says Stephen Schork, editor of energy investing newsletter the Schork Report. Rising demand from power plants burning more gas should eventually help lift gas prices closer to $3 per MMBtu, perhaps by winter’s end. But until then, gas remains a buyer’s market, and electric utilities are taking advantage.

Predictions for the winter of 2015

The past two winters have featured frigid cold over much of the country. And in both cases, that nasty weather gave the U.S. economy a bad case of the flu. There’s no telling for sure what this winter has in store, but there’s good reason to believe we’re in for a break.

Hello, El Niño

The first quarters of 2014 and 2015 are periods that many folks would probably prefer to forget. Both saw outbreaks of extreme cold across much of the Midwest and the Northeast. Boston set a snowfall record. High heating bills no doubt put a dent in many household budgets. And both quarters saw economic growth all but freeze up: negative in the first quarter of 2014 and a paltry 0.6% in the same period of 2015.

Mother Nature could prove kinder this time around. Long-term predictions favor a milder pattern over the parts of the country that were recently slammed by the Polar Express. The National Oceanic and Atmospheric Administration, for instance, is calling for above-average temperatures across the northern tier of the country, thanks to the phenomenon of warming Pacific Ocean waters known as El Niño. Though weather forecasts are, of course, notoriously fickle, Niño winters typically tend to favor rainy and cool (but not frigid) weather in the South, increased chances for rainfall in California and milder-than-average temperatures throughout the North.

Even if the weather forecasts don’t pan out, consumers and businesses can look forward to abundant supplies of all the major heating fuels: natural gas, heating oil and propane. That’s in sharp contrast to two winters ago, when extremely high demand drew down stockpiles, causing shortages of heating oil and propane, and painful price spikes for all three fuels. Last winter, supplies were large enough to cope with heavy demand, but consumers still paid a stiff price.

Residential heating oil, for instance, averaged $2.89 per gallon by the end of last winter, with propane at $2.29 per gallon. Today, the averages are $2.44 per gallon for heating oil and $1.91 per gallon for propane. Meanwhile, stocks of heating oil in the Northeast are at their highest level since 2011. Propane stockpiles have set an all-time record: a whopping 102 million barrels. That should keep prices of both fuels from rising much during the winter.

Natural gas prices figure to climb as winter sets in. But the gain should be modest, thanks to ample stockpiles building up in storage now. The Department of Energy expects that gas in storage will reach a record by Halloween, around the time colder weather typically perks up heating demand, shrinking stockpiles. At about $2.50 per million British thermal units (MMBtu), the benchmark price of natural gas is more than $1 per MMBtu cheaper than a year ago. We see prices advancing to about $3 per MMBtu sometime this winter, with a proportional rise in the price most consumers pay. If that pans out, the average gas bill should come in moderately lower than last year.

More Relief at the Pump

At the same time that consumers stand to save on their heating bills, they’re also likely to pocket more cash at the gas pump. Now at $2.24 per gallon, the national average price of regular unleaded is only a tad more than the lowest price recorded in 2015. And we expect pump prices to keep easing, now that the summer driving season is in the rearview mirror. Barring a sudden spike in oil prices caused by some sort of geopolitical shock, odds are good that gasoline will keep slipping this winter, possibly returning to the roughly $2 per gallon reached last January. An even steeper drop can’t be ruled out.

Lower gasoline prices could give a real lift to the economy, not just because drivers would have more cash to spend on purchases other than gas, but also because a further price drop would come as a pleasant surprise to most consumers. According to a survey by the National Association of Convenience Stores, which represents many of the nation’s gas stations, only about one-fifth of drivers expect gas prices to keep declining. So, if our forecast for a further drop holds up, look for a bit more consumer spending this winter — another nice change of pace from the deep freezes of 2014 and 2015.

U.S. Crude Oil Exports? Someday

On an unrelated note: Low oil prices have U.S. oil producers hoping for access to new markets. Most U.S.-pumped crude cannot be sent overseas, thanks to the 1970s-era ban on exports enacted in the wake of the OPEC oil embargo and the resulting oil price spikes. That prohibition didn’t matter much when the U.S. needed to import most of its oil, but the production renaissance of recent years has raised the realistic possibility that the domestic market could become saturated with domestic crude. (The U.S. is still a net importer, though soaring output of light, sweet crude oil threatens to outrun the refining industry’s ability to process that grade of oil.)

Lifting the export ban would bring some much-needed relief to a beleaguered industry. But don’t bet on it just yet. The U.S. House of Representatives recently passed a bill ending the ban, but its passage in the Senate looks iffy. And the White House has gone on record as opposing the bill, suggesting that a presidential veto would be forthcoming if the Senate did follow the House’s lead.

Jack Gerard, president of the American Petroleum Institute, the oil industry trade group, recently held a conference call expressing API’s optimism that a deal to end the export ban is within reach. His optimism is understandable, given that selling U.S. crude to overseas buyers would help offset the financial pain of today’s low oil prices by opening up new markets. But when pressed by reporters to lay out a strategy for getting the House’s bill through the Senate and past a White House veto, Gerard couldn’t outline one.

Instead, we look for American crude to trickle out of the country in small volumes, as the government continues to loosen the export ban without formally repealing it. Recent decisions by the Department of Commerce to allow exports of minimally processed condensate (a form of very light crude), as well as a deal with Mexico to let American firms swap some light, sweet U.S. crude for the heavy Mexican variety that many refineries here are designed to process, are prime examples.

A ban that gets a little looser but largely stays in place won’t give oil producers much to cheer about. But it’s good news for U.S. refiners, who will continue to profit from buying abundant American crude at a discount to the global benchmark. After all, there’s no ban on exporting refined fuels, and refiners are acting accordingly.