It’s exactly one month since Russia invaded Ukraine, and the oil markets remain as volatile as ever with little clarity as to how direct and self-sanctions will impact Russian crude output as well as global oil demand.
After the volatility-induced speculative unwind, which caused the 30% price fall from the 7 March high, oil prices have moved sharply higher over the past week.
Front-month Brent settled at $115.62 per barrel (bbl) on 21 March, a w/w increase of $8.72/bbl and $18.69/bbl above the 16 March intra-day low. The value of the OPEC basket rose by $3.17/bbl w/w to $113.84/bbl and by EUR 2.18/bbl to EUR 103.34/bbl. Volatility remains high: according to commodity analysts at Standard Chartered, the 30-day annualized realized Brent volatility rose 10.1ppt w/w to a 21-month high of 72.8%, while the 10-day measure rose 4.9ppt to 108%.
With positioning reset and significantly less crowded, crude oil prices have been staging another rally. Yet, market experts can’t seem to agree on the oil price trajectory, with key energy agencies revealing large differences in views on Russian oil output.
Stark differences between forecasts for Russian oil output
Source: Standard Chartered
Divergent views
OPEC+ and the U.S. Energy Information Administration are the most bullish on Russian crude outlook, while the International Energy Agency and Standard Chartered are less optimistic.
The latest forecast comes from the IEA: in its March 16 report, the Paris-based energy watchdog warned of a potential global oil supply shock, with ~3 million b/d of Russian oil production likely to be shut-in next month.
In its latest monthly report, the IEA projects lower demand growth for 2022 by 1.1 million b/d to 2.1 million b/d thanks to reduced Russian consumption and higher prices. The main reductions in the IEA growth forecast by country were Russia (430kb/d), the U.S. (180kb/d), and China (70kb/d).
The EIA was more conservative than the IEA in cutting its 2022 forecast by 415kb/d to 3.13mb/d and increasing its 2023 forecast by 77kb/d to 1.95mb/d. While acknowledging the scale of the potential demand risks, the OPEC Secretariat has maintained its 2022 demand growth forecast at 4.15mb/d.
Big Supply Deficit
For its part, StanChart has become even more pessimistic about the Russian outlook. In its March 9 report, StanChart lowered its 2022 forecast to 1.94mb/d, nearly a million b/d lower than its February forecast.
StanChart says ongoing sanctions, continuing consumer reluctance to buy from Russia as well as shortages of capital, equipment, and technology will continue to depress Russian output over--at least--the next three years. The commodity experts have predicted that Russia’s output decline will peak at 2.306mb/d in Q2-2022.
StanChart says that rebalancing the oil markets would require around 2mb/d extra supply for the remainder of 2022, mainly due to the current very low inventory levels, and an additional 2mb/d in Q2 to ease the dislocations caused by the displacement of Russian oil. StanChart’s model assumes that the current OPEC+ deal continues, no increase in Iran’s exports and U.S. output growth Y/Y is just over 1.5mb/d.
But here’s the main kicker from the StanChart report: only OPEC can bridge the big supply deficit.
StanChart estimates that an Iran deal could potentially provide an extra 1.2mb/d in H2-2022, still leaving a significant gap that can only be realistically filled by those OPEC members with spare capacity, particularly Saudi Arabia and the UAE.
And, prospects for a sharp increase in U.S. shale production are not looking great at the moment.
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According to the latest Baker-Hughes survey, the U.S. oil rig count fell by three w/w to 524 while the gas rig count gained two to 137. The largest w/w increase in oil activity came in the Midland Basin, where the rig count gained four to 123. Elsewhere in the Permian Basin, Delaware Basin oil drilling activity fell by two w/w to 158, while other Permian activity fell by three to 32 rigs. The Bakken region of Montana and North Dakota registered its first w/w fall in activity in over a year, with the oil rig count losing one to 32. The latest EIA Drilling Productivity Report showed a m/m increase of 13 to 429 for Permian well completions in February, leaving them 48 lower than 2019 average monthly completions. Permian drilled-but-uncompleted wells (DUCs) fell 86 m/m to 1,396 in February, allowing monthly completions to stay significantly ahead of wells drilled.
With the inventory of DUCs as well as production per rig having fallen off a cliff, U.S. producers need to sharply ramp up drilling activity just to maintain current production clips.
According to StanChart, Russian oil exports to Europe could be cut to zero without medium-term price overheating, but only if Q2 dislocations are eased by large strategic stock releases and if OPEC production increases significantly.
The prospects for the latter depend on whether there is a deal in the nuclear negotiations with Iran in Vienna and whether key OPEC members (particularly Saudi Arabia, UAE, Kuwait, and Iraq) are nimble enough in their policy thinking to move away from the OPEC+ agreement. If OPEC ministers accept the lower two lines as a base case(see chart above), they will conclude that there are few advantages, and multiple disadvantages, in staying within the current OPEC+ agreement.
By Alex Kimani for Oilprice.com
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Even a reduction of 2.0-3.0 million barrels a day (mbd) of Russian oil exports out of 8.0 mbd that were exported before the Ukraine conflict won’t cause Russia financial loss since high Brent crude at its current level offsets a decline in the exported volumes of Russian crude exports.
The quintessential fact is that the global oil market can’t do without Russian oil exports and furthermore there is no one single producer or even a group of producers including OPEC+ and US shale oil that can replace Russian crude now or even in the future. Russia’s Arctic will be one of only three regions in the world that will most probably produce the very last barrels of oil. The other two are the Arab Gulf region and Venezuela’s Orinoco Belt.
The global oil market is currently very tight and getting tighter by the day with a shrinking global spare capacity including OPEC+ and will remain so for at least the next five years until increasing investments in oil and gas projects reach fruition.
The oil price doesn’t lie. In fact it gives the lie to disinformation and unsubstantiated claims about customers shunning Russian crude oil exports and a reduction in Russian oil exports. If such claims were true, we would have seen Brent crude hit $140-$150 a barrel by now.
Dr Mamdouh G Salameh
International Oil Economist
Visiting Professor of Energy Economics at ESCP Europe Business School, London