Head of Commodity Strategy
Summary: Crude oil trades near a three-month high around $120 per barrel following China's latest, and so far, succesful attempt to lift Covid-19 lockdowns in major cities. The near-term outlook points to higher prices with tight supply caused by sanctions, OPEC's inability to lift production, and oil majors showing limited appetite for new projects. Developments that eventually will balance the market as higher prices kills demand while adding fuel to recessionary flames across the world, perhaps even in the US.
Crude oil trades near a three-month high with the front month contracts of WTI and Brent both hovering around $120 per barrel, waiting for the next market moving developments. The recent upside extension was driven by China’s latest, and so far, successful, attempt to reopen major cities following Covid-19 lockdowns, a development which is likely to increase demand from the world’s biggest importer at a time where the global supply chains remain stretched due to the war in Ukraine.
However, against a challenging supply outlook the demand side is also receiving increased attention. The outlook for global growth remains challenged with a high frequency US GDP tracker monitored by the Federal Reserve pointing towards increased risk of zero growth in the second half, potentially resulting in a technical recession following the negative Q1 print.
In addition, the World Bank on Tuesday slashed global growth, warning of 1970’s-style stagflation. With supply being challenged by sanctions against Russia - the EIA forecasts output could take an 18% hit in 2023 - reduced investment appetite from the oil majors, and OPEC+ struggling to deliver the agreed production hikes, only a reduction in global demand, potentially driven by demand destruction at even higher prices will balance the market.
Crude oil priced in dollars is still around 20% below its 2008 all-time high, while in local currency, oil is at a record high for countries accounting for more than a third of the world’s oil demand according to this Bloomberg Opinion piece. With the cost of diesel and gasoline already at record levels in dollars, the impact on non-dollar-based consumers has become even more expensive.
The above charts show the margin, priced in dollars per barrel, refineries can make from producing gasoline and diesel from either WTI in the US or Brent in Europe. With the gasoline margin trading at a factor 3 to 4 above the long-term average, consumers are already paying prices that reflect crude at or even above $150. However, two years of lockdowns has not only given people's savings a boost, it has also increased the desire for mobility this upcoming summer holiday period. With that in mind, and together with increased demand for cooling in the Middle East, demand for fuel is likely to remain strong during the coming months, thereby further aggravating an already tight market outlook.
Later today, the EIA will release its weekly crude and fuel stock report, and even the prospect for an across-the-board stock build, if API’s data is confirmed, the market has still managed to trade higher ahead of the release.
WTI crude oil recorded the second highest closing price since 2008 on Tuesday, and as long it can maintain support around $116.50 per barrel, the risk of higher prices exist.
The main reason why the report is unlikely to offer much relief to a tight fuel market can be seen below with inventories of gasoline and distillate (diesel) at their lowest seasonal level in years. In addition, the market will also look for any change in demand for motor gasoline, currently at levels close to the five-year average.
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Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
