Kemp: Rising Oil Prices Herald Next Phase In Cycle



Kemp: Rising Oil Prices Herald Next Phase In Cycle
Oil prices are now in the top half of the cycle, with benchmark Brent trading above $80 per barrel for the first time since November 2014.

Reuters

(John Kemp is a Reuters market analyst. The views expressed are his own)

LONDON, May 17 (Reuters) - Oil prices are now in the top half of the cycle, with benchmark Brent on Thursday trading above $80 per barrel for the first time since November 2014.

In real terms, prices averaged $75 per barrel over the course of the last full cycle, which lasted from December 1998 to January 2016.

The recent rise in prices sends a strong signal about the need for more production and slower growth in oil consumption.

In the next few months, the narrative will increasingly turn to boosting supply and restraining demand in order to stabilise inventories and return the market to balance.

Between 2014 and 2017, oil market “rebalancing” meant restricting production, stimulating demand and cutting excess inventories.

For the rest of 2018 and 2019, rebalancing will mean precisely the opposite.

Cyclicality

The oil industry has always been subject to deep and prolonged cycles of boom and bust, and there is no reason to think the next few years will be any different. (https://tmsnrt.rs/2wUWBvY)

Cyclical behaviour is the single most important distinguishing characteristic of oil markets and prices, and is deeply rooted in the industry’s structure.

The price cycle is driven by the low responsiveness of production and consumption to small changes in prices, at least in the short term.

The behaviour of many oil producers and consumers exhibits a strong backward-looking component, so decisions tend to be based on where prices have been recently rather than where they are likely to go.

But most importantly, the oil markets are a complex adaptive system which is subject to multiple feedback mechanisms operating at different speeds and timescales.

The price cycle is driven by the interaction of positive feedback mechanisms (which magnify shocks) and negative feedback mechanisms (which dampen them).

In the short run, positive feedback mechanisms are more influential and tend to push the market even further away from balance following an initial disturbance.


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