Outlook for oil remains volatile

Despite falling oil prices, some are still maintaining their outlook for oil price to hover between US$50 to US$65 per barrel, while others are slightly reducing their earlier forecasts.

RHB Institute is turning more cautious on the upside for crude oil prices, dialling back slightly on its Brent crude oil price assumption for the second half of the year, down by 7% to an average of US$66 to US$67 per barrel for 2015.

That means, for the third and fourth quarters of the year, oil price will have to be US$75/US$80 per barrel respectively. The long term outlook is maintained at US$80 per barrel for Brent oil”.

“Crude oil prices are expected to remain volatile and depressed between US$50-60 per barrel levels in the months ahead in the absence of significant cutback in production amid getting some price support from steady global demand.

“The resumption of oil sales by Iran following the conclusion of its nuclear deal with the West, could worsen the oil glut going into next year. Iran could add up to 500,000 barrels per day (bpd) to the oil market by the second quarter of 2016,” said independent economist Lee Heng Guie.

Until there is a meaningful cutback in production by major oil producers such as Saudi Arabia and Nigeria, the global oil price is expected to stay range bound between US$50 to US$60 per barrel in the next six to 12 months, said Lee.

The Organisation for Petroleum Exporting Countries (Opec) is currently overshooting its 30 million barrels per day production target by some 1.45 million barrels amid stronger output from Nigeria, Iraq and Saudi Arabia, Lee noted.

Meanwhile, Chris Eng, head of research, Etiqa Insurance & Takaful, is still expecting Brent oil price to recover by year end to around US$65 per barrel.

“The Iran nuclear deal came a bit late and so is pressuring oil price more because the summer driving season is about over,’’ said Eng.

In fact, Opec considered the drop in oil prices this month to be short term and would not deflect the organisation from its policy of keeping output high to defend market share, said Reuters, quoting delegates from Gulf Opec members and other nations.

Brent crude was trading 13 US cents lower at US$56 a barrel last Thursday, after settling down 91 US cents. Brent has shed about 12% this month on concerns about demand, said Reuters.

Oil price is being impacted by falling Chinese stock markets, the Greek debt crisis and the possibility that Iran’s nuclear deal with six global powers could lead to higher supply from the Opec member as sanctions against Tehran are lifted.

Opec, in a major policy shift, decided in November against cutting its production target of 30 million barrels per day (bpd) to prop up prices, seeking instead to defend market share against US shale oil and other competing sources. The group reconfirmed the strategy at a meeting in June, according to Reuters.

Kuwait’s oil minister, Ali Saleh al-Omair, had expressed confidence in the outlook, saying producer countries expected stronger global economic growth to boost prices.

US banks were setting aside more money to cover bad loans to energy companies after oil prices plunged over the last year, raising the possibility that deteriorating loans could start to weigh on their earnings, Reuters reported, quoting analysts.

Executives from both JPMorgan Chase & Co and Wells Fargo & Co told investors recently, when posting earnings, that they were increasingly concerned about loans to oil and gas companies. Texas bank Comerica Inc last Friday set aside about three times as much money to cover bad loans.

Following an annual exam of loan credit quality, regulators are pressing banks to set aside more money to cover their energy loans, said Reuters, quoting an earlier report from the Wall Street Journal.

The hit to earnings from banks’ higher provisioning could pour cold water on shares of a sector that has been on fire recently.

Since the end of January, US bank stocks have risen 18.7%, compared with a 6.6% gain for the broader Standard & Poor’s 500 index, according to Reuters.

Much of that optimism has come from investors preparing for the Federal Reserve to raise interest rates, boosting the rates at which banks can lend and therefore, their profits.

While noting “asset quality deterioration” in the energy loan portfolios of Wells Fargo and JPMorgan, Moody’s analyst Joseph Pucella, in his report, had written that the exposure of those banks is “comparatively small.”

Nearly eight years after panic on Wall Street tipped the country into a severe recession, federal regulators are still trying to minimize the risks to the overall economy posed by large banks, according to the New York Times (NYT).

The Federal Reserve has introduced new restraints that would apply solely to the nation’s eight largest banks, a group that holds more than US$10 trillion in loans and securities.

The rules do not require the banks to shrink to a particular size, instead, the Fed is seeking to create financial incentives that could persuade the firms to get smaller over time – making them more resilient to economic shocks and less likely to damage the economy should they fail, according to NYT.

Under the regulations, the largest banks with the biggest Wall Street operations have to meet higher capital requirements than smaller banks that focus on traditional lending.

“This final rule will confront these firms with a choice: They must either hold substantially more capital, reducing the likelihood that they will fail,” Janet Yellen, chairwoman of the Federal Reserve, was quoted in a statement, “or else they must shrink their systemic footprint, reducing the harm that their failure would do to our financial system.”

JPMorgan Chase would have to hold the most in extra capital.

Its additional amount would be equivalent to an estimated 4.5% of its assets, if the calculation were done on the bank’s recent numbers. The bank would need to increase capital by an estimated US$12.5bil to comply with the 4.5% requirement, Reuters reported, quoting a Fed official.

Under international banking rules that apply to US institutions, the eight banks have to have a capital base that is equivalent to 7% of their assets, which are made up of loans, securities and cash.

The international rules then envisioned a layer of additional capital for the largest firms. Officials at the Fed, however, wanted the extra amounts, which they are calling surcharges, to be still larger for US banks, according to Reuters.

The officials also favoured larger capital requirements for big Wall Street banks that borrow large sums of money in markets that are prone to panic.

With the outlook for world and regional economic growth being revised further downward by the International Monetary Fund and Asian Development Bank, it remains to be seen how much demand for oil will improve.

The recovery in demand for oil, if any, could be quite small. Still, there are expectations for a slight recovery in oil price by year-end.

With the plunge in oil prices, what follows will be the impact on US banks’ exposure to loans to the sector.

With oil prices still expected to be on the low side, these banks would probably be more cautious in lending further to energy companies.

The requirement for additional capital is a subtle challenge especially for the large US banks to have the financial muscle to come up with the amount; otherwise they have to scale down their operations.

Either way, the authorities make sure that they stay financially strong and are able to withstand crisis or panic although there are protests that this may erode competitiveness. – The Star