The Energy Space

Crude Oil Outlook and Forecast For 2013

Despite the relatively sideways trading range and declining volatility that the last few months of 2012 has brought the oil markets, underlying developments have remained fairly dynamic. The November election in the U.S. and change of power in China will have strong impacts on price direction, as will the developments on the production and transportation sides made earlier in the year.

Uncompromising leadership in the U.S. and drags from increased regulation and taxes will be countered by potential recovery in the Chinese and European economies as well as a possible euphoric bounce after a fiscal cliff and/or debt ceiling agreement early in the year. A challenge will be made to escape the long-term bullish mindset that has dominated oil markets in recent years and revert to an environment of higher production and potentially downward trending prices. As peak oil was a main factor offering support five years ago, increasing shale production and slowing demand growth are offering pressure now. Signs of oil shortages were a bullish driver a few years ago, but increasing domestic production and potential exports could put the Keystone XL pipeline from Canada into question. While the market may see a generally downward trend in 2013, it may also see short-term bouts of support if OPEC were to reduce production quotas, Israel struck Iran's nuclear capabilities, or if the economy grows strongly.

Our bias for 2013 suggests that the downtrend that began in May 2011 in both WTI and Brent is likely to continue and that a breach of the 2011 low in WTI at $75/bbl is possible. The market may exhibit wide trading ranges as it did in 2011 & 2012, with WTI expected between $75/bbl-$105/bbl, an average price of $90/bbl, and a year-end objective at $85/bbl. Brent may see its premium to WTI shrink toward $5-$10/bbl by year-end from the low-$20's as the Seaway pipeline expansion opens and BP's Whiting refinery completes its upgrades. Brent could range between $95/bbl-$125/bbl, with an average price of $110/bbl and a year-end objective at $105/bbl.

2012 in Review

The year 2012 brought a continuation of the downward trend in oil markets which began in May of 2011. The market peaked at that time after the first four months of 2011 brought the Arab Spring and reduced oil output from Libya. The shortfall was partially made up for by the third ever IEA storage release and the ramp-up of output from Saudi Arabia. The disruption would have been greater were it not for the slowdown in economic growth in Europe. An earthquake in Japan in March 2011 brought a solid increase for LNG shipments due to shutdowns of nuclear capacity, while oil demand only increased marginally.

A similar start was seen for 2012 where strength occurred early in the year before a peak in March/April. A continuation of the late-2011 rally helped, as did the second bailout of Greece on Feb 21st. U.S. economic data showed improvement early in the year, but received sobering news starting in early-May when payroll data began falling short of expectations. Both jobs and economic demand were brought forward to the winter months from the early-summer months, and made Q1 2012 economic data appear artificially better than it was. Expectations of a double-dip recession increased by summer as data slowed. The 2012 peak in prices was formed in March/April in WTI/Brent but that trend accelerated to the downside with the early-May payroll report. Worries about Greek debt resurfaced, as did concerns about Spain. It was a relaxation of conditions on emergency loans to Spain and Greece on June 29th that helped put in a bottom in oil prices. That was solidified later with a speech by ECB President Draghi on July 26th in which he promised to do whatever it takes to save the Eurozone. On Sep 6th, he launched the Outright Market Transaction plan which could buy bonds from distressed countries in order to lower their interest rates. The dollar has weakened since that time and offered support to oil prices. There were oil supply disruptions in Brazil and Yemen in 2012, but they didn't matter in face of increased shale production in the U.S. OPEC boosted production 1.14 mb/d from January through August, but cut back output by 0.99 mb/d between August and November.

2013 Outlook

The Economy

November 6th brought the U.S. election and a glimpse into the effect that Washington will have on the energy markets. It may offer a negative impact as opposed to China which picked new leadership on November 8th, and Europe which worked out a framework for common banking regulation on December 13th. The U.S. should be bogged down with headwinds caused by continued slow-growth conditions, quantitative ease, uncertainty about taxes, the debt ceiling, and ongoing Washington partisanship. Economic growth is expected to improve slightly from 2012's 2.1% average. The fiscal cliff negotiations and the lack of progress in them in late-2012 showed that lawmakers are still unable to reach across the aisle. Corporate spending decisions are being delayed due to uncertainty about tax rates, and could be duplicated in late-February when the debt ceiling will need to be raised. The last battle in July-August 2011 resulted in S&P cutting the U.S.'s AAA credit rating and oil prices falling 25% in just a few weeks.

The composition of the Fed may become more dovish, as the hawkish loyal dissenter Jeffrey Lacker won't hold a vote. Fed Presidents Evans and Rosengren will vote this year and are both considered doves. Both argued for the 6.5% unemployment threshold adopted by the Fed at its December 12th meeting. KC's George will replace the hawkish President Hoenig, but she's been less critical of easy Fed policy than Hoenig has. President Bullard could be hawkish too, but he did not dissent at any time during his previous votes in 2010. A dovish Fed hasn't necessarily been good for oil prices like it has for markets like gold and equities (chart below). Oil may focus more on the Fed's adverse economic outlooks such as promises to keep rates low through 2015 than where easy money will be invested....1718 more words left in this article. To read them, just click below and try Real Money FREE for 14 days.

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