Oil prices will 'grind higher' and don't expect a smooth ride: Citi's Kleinman

Will oil reach $65 a barrel?

Crude oil inventory drawdowns, supply outages and oil worker strikes are happening all over the world and are likely to prove beneficial to oil prices this year, the head of European energy research at Citigroup said on Wednesday.

"We stayed bearish through all of last year but starting early this year you really started to see oil supplies really getting whacked by the low oil price. And yes you see U.S. declines, but you see (the same) in Azerbaijan, you see it in Mexico, you see it in China, you see a pretty broad-based, widespread declines settling in," Seth Kleinman told CNBC on the sidelines of the Institute of International Finance summit in Madrid.

On Tuesday, Citigroup said the worst was over for the beleaguered oil market, which has seen prices tumble from $114 a barrel in mid-2014 to around $26 a barrel in early 2016 due to a glut in supply and the failure of demand to keep pace. Citi upped its forecasts for Brent to reach $65 a barrel in 2017.

Oil and petrochemical refinery, Kaduna, Nigeria.
Andrew Holt | Getty Images

Kleinman said he thought that forecast was a "pretty reasonable base case expectation" due to supply outages – seen in the Middle East (specifically in Kuwait and Libya), Nigeria and Canada, for various reasons – as well as a drawdown in crude inventories.

"Compounding the (declines in inventories) is these outages that we're having and these outages we're having, they're not happening independently of the low oil price. There's the Kuwait oil workers' strike, the possible Nigerian oil workers' strike and attacks on pipelines all around the world because people aren't getting paid and so they're taking out their frustrations on oil infrastructure," he noted. 103641153

"These things aren't going to go away, so I think now that you're really starting to see U.S. declines on top of all these other economic declines and outages, I think you've got a pretty firm base for a rally."

Grinding higher

Oil futures moved closer to $50 a barrel on Wednesday, continuing a rally seen this week on the back of industry data which showed a larger-than-expected drawdown in U.S. crude inventories last week. U.S. crude stocks dropped by 5.1 million barrels to 536.8 million last week, data from the American Petroleum Institute showed on Tuesday, double the expectations of analysts polled by Reuters.

Kleinman warned that prices would have to "grind higher" however in order to prevent U.S. shale oil production, which has declined due to the low oil price, coming back online too quickly and bringing prices down again.

"We can't shoot for the moon this year (or) else U.S. production comes back, it has to be a slow and steady grind. So that's why we're bullish but not too bullish."

Another event that could be decisive for oil markets is a meeting of the powerful 12-country oil producer group OPEC in early June. The group, which is largely led by member Saudi Arabia, decided in November 2014 not to cut its own oil production, choosing to defend its market share against rival producers. The decision has been cited as a reason why some higher-cost producers in the U.S., for example, have cut and closed production.

An worker on offshore oil rig 'Marjan 2' in March 2003, located in the Persian Gulf, Saudi Arabia.
Is Saudi Arabia calling the market's bluff over oil?

After several unfulfilled expectations that OPEC could cut or at least freeze production, Kleinman warned investors not to expect any fireworks from OPEC when it gathers in Vienna on June 2.

"There still seems to be people who want to believe that OPEC is going to do something but I'm very skeptical on that front … So I think it will be volatile when people suddenly realize that they haven't done anything, yet again, plus demand's not doing great. This is not a demand-led recovery, it's about supply," he said.

"As long as supply continues to decline, which it is and it's going to take time, it means we can grind higher but it's not going to be linear," he added.

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