Two years ago Leonardo Maugeri, a former strategist for the big Italian oil company ENI, predicted that crude oil prices were heading for a fall in two to three years. It wasn’t an obvious forecast; the average price of OPEC crude oil that year set an all-time record.
“Contrary to what most people believe, oil supply capacity is growing worldwide at such an unprecedented level that it might outpace consumption,” he wrote in an exhaustive field-by-field study in 2012. “This could lead to a glut of overproduction and a steep dip in oil prices.”
Today, with oil prices hovering around $80 a barrel, Maugeri is feeling good about his prediction. “The Oil Surprise; Why I Was Right,” he wrote in a recent newsletter in his current role as an associate with the geopolitics of energy project at the Harvard Kennedy School's Belfer Center for Science and International Affairs. He said in a separate e-mail that prices could fall to $75 a barrel -- or even lower if the markets go into a panic.
The crux of Maugeri’s analysis was this: Oil companies were in the middle of “an investment super-cycle” in exploration and production and that by the second half of 2014 or early 2015, new sources of oil would swamp the market and drive prices down.
“In 2012 I was almost alone in forecasting such a gloomy (or rosy, depending on the point of view) scenario for oil,” Maugeri wrote in his newsletter.
Oil companies have indeed invested at a scorching pace, spending $2.5 trillion in the past four years to search for new supplies and bring them online. That level of spending set “an absolute historical record, even when taking into account the specific inflationary pressure which more than doubled upstream costs in the course of a decade,” Maugeri wrote.
Because big oil projects take years to develop, many of the projects launched in recent years have yet to add new supplies. And while old fields may be in decline, Maugeri – who studied world supplies on a field by field basis – says that the current 95 million barrel a day rate of production could easily rise to 100 million barrels a day.
That level is “already locked in,” he wrote in a separate e-mail to the Post. Including biofuels and natural gas liquids, global production capacity is already more than 100 million barrels a day.
Maugeri isn’t the only person to have forecast a decline in oil prices. It’s a common saying in the cyclical oil business that “the best cure for high oil prices is high oil prices.” Edward Morse, head of global commodities research at Citigroup, has long argued that rising production, especially in the United States, would -- eventually -- send prices tumbling.
Robert McNally, president of the Rapidan Group, a consulting firm, said, “A price drop has many fathers!" He said he agrees that supplies will be “resilient,” but he added that he believes this price drop has also been driven by weak economic growth, the return of Libyan production and the reluctance of Saudi Arabia to play its traditional role of swing producer in the Organization of Petroleum Exporting Countries. A year ago, McNally and his firm anticipated that the kingdom would not cut its output to prop up prices and instead would let oil prices drop enough to make new U.S. shale oil production unattractive economically.
Maugeri isn’t as focused on the politics as he is on global production capacity. He said that many people have underestimated global supply because they expected improved recovery techniques would delay or moderate the natural rate of production decline in old fields. It was a mistake “to view decline rates of existing fields as deterministic and inflexible functions,” he wrote in his newsletter.
Another reason for underestimating supplies, he said, was that some people underestimated the potential for higher levels of shale oil output.
Maugeri also said that the recent drop in prices would not stimulate demand enough to offset higher production levels. He said he expected no more than a 1 million barrel-a-day rebound.
Maugeri’s observation suggests that the recent 20 percent plus drop in crude oil prices isn’t just a passing dip in prices. Even a cut in output by OPEC might simply delay further price declines. For now, Saudi Arabia, the traditional swing oil producer, has decided to maintain its output level even if prices drop in an effort to hang onto market share and upset the investment plans of rival oil producers and renewable energy companies.
Maugeri expects “there will be growing strains within OPEC,” he said in his e-mail.
“For now, Saudi Arabia is the only country that has voluntarily avoided [producing] at full capacity,” he added. “If oil prices continue to slip down, the kingdom will ask the other members to share the burden, but the others will likely try to resist such pressure, and SA may react by not cutting anything more than it's doing.”
He added that “the problem could become even more acute” if there is new output from any of the OPEC members – such as Nigeria, Libya, Iraq or Iran -- that are producing less than capacity because of war, strife or sanctions.