With oil production falling in Venezuela and Iran, excitement in the Middle East at its highest point this year, and the threat of further power outages in Libya, why are oil prices not trading higher?
Even price volatility has been quite low, a surprising function of a tight market context of geopolitical risk. Burned crude has been stuck between a relatively narrow range of $ 70 to $ 75 a barrel for more than a month, despite all the turmoil.
Also, even the back end of the futures curve has barely budget, trading between $ 60 and $ 65 per barrel. At the same time, the front part of the curve has moved to a steep backward transition – when near-term agreements are traded at premiums for longer dated futures. Backwardation is usually associated with a tight oil market. Essentially, traders are willing to pay a premium for oil today in relation to deliveries six or twelve months out.
What does all this mean? "The recent movements in the oil price complex indicate some deep disturbances between the physical and future markets and the market's expectations of today's and future oil market bases," the Oxford Institute for Energy Studies (OIES) wrote in a new report.
Last year, the oil market saw the opposite situation. The rear of the curve rose in anticipation of a tighter market, while the long-term futures suggested that the market was well supplied, OIES noted. This discrepancy was clarified when a wave of supply came online from OPEC +, the US, and the Trump administration gave surprising exemptions to Iran. The end result was a price drop.
How will the gap in expectations be resolved this time? "If 201
The big question is how and when Saudi Arabia will respond. Riyadh is very reluctant to see a repetition of 2018 when prices crashed after production increases. This time, Saudi Arabia will disturb the side of letting too tight, although the OPEC + group has adopted a "wait-and-see" approach, settling a decision for the June meeting (which may even be squeezed into July). In this way, the OPEC + services will get more information on how US sanctions affect production in Iran and Venezuela, and events around the trade war between the US and China are also becoming more apparent.
But the wait strategy carries risk. "The challenge, however, is that instead of being resolved, most of the uncertainties (both supply and demand) will only intensify in the coming months," warned OIES.
Supply interruptions are already at perennial heights of about 3 mb / d and could increase further. While OPEC + can compensate for such a large volume of disturbed output, the cloud knocks off supply / demand and makes it difficult to plan. Either way, if OPEC + burns through extra capacity, it may in itself increase prices and volatility, even if each barrel is knocked off, is accounted for. Related: Saudi Arabia scrambles to Calm Oil Markets
However, the biggest source of uncertainty is on the demand side. The trade war between the US and China threatens global growth at a time when economic indicators do not look good. In the end, a decline will reduce prices.
OIES publishes a few scenarios. If OPEC + sticks to the cuts, Brent prices can increase by $ 5 a barrel in the second half of 2019 compared to the first half, and cost $ 77 a barrel later this year. If they add back to the market by eliminating over-compliance, Brent could be around $ 70. If they leave the deal, the prices could fall to $ 60.
In addition to OIES, OIES included some price forecasts that led to an economic downturn. A gloomy financial view combined with a poor time-out from the OPEC + agreement could send the prices down to $ 50.
Finally, OIES suggests there is a rather large gap in expectations between the bulls and the bears. The bullish case rests on supply breaches and OPEC + sticks with its cuts, while a more bearish scenario sees unrest in the OPEC + mission, forcing a premature exit from the agreement. Adding to lower risk is the possibility of an economic downturn. The difference between these two prospects is significant.
As such, the present state of low volatility, which depends on assumptions about the stable hand of Riyad, cannot last.
"The magnitude of the disruptions in expectations and the challenge of navigating the current fog conditions indicate that the oil market is set for a very bumpy ride," says OIES.
By Nick Cunningham from Oilprice.com
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