Uncertainty appears to have returned to oil markets of late, with a cluster of factors battling for influence over prices.
The oil bulls are very content with the Vienna deal, its success (hitherto) and the prospects of another extension. The coming summer driving season is sure to boost this bullish sentiment as demand looks set to jump. Trump’s recent political reshuffle and the impact that may have on the termination of the Iran nuclear deal and the associated geopolitical tensions in the Middle-East add still more upside for prices.
Oil bears can counter these arguments by questioning the longevity of the Vienna oil deal, pointing to the rising prospects of trade war between China and the U.S., and highlighting the incredible growth in U.S. shale production. For the rest of the year it will be the inter-play between these bullish and bearish factors that control where prices go.
Let’s be honest. Of-late, bulls have largely dominated the market while bears appear to have gone into hiding. The bullish factors have been quite prominent in the news of late, and summer driving season is finally upon us. The summer driving season starts in April and ends in September with different peak periods. Millions of cars hit the road as families head out on vacation. This results in increased gasoline consumption, forcing refineries to consume more oil to meet the demand. In combination with other factors, the uptick in demand due to driving season will definitely provide some upside for oil prices. Related: Is Oil Demand Growth Overrated?
As well as driving season, Donald Trump’s administration will soon formally re-consider the Iran deal known as Joint Comprehensive Plan of Action. The sacking of National Security Adviser McMaster, who was replaced by John Bolton, has signaled that the administration is likely to take a more hawkish stance against Iran. It is well known that John Bolton has no taste for soft diplomacy. It is expected that on May 12th, 2018, the United States will likely cancel JCPOA. Oil prices spiked on the news of Bolton’s appointment and they will likely spike again if the agreement is indeed cancelled. However, it remains to be seen whether this will be a long term bullish factor for oil prices or if it is largely a sentiment driver.
Both bulls and bears will be watching OPEC’s June meeting carefully. If the countries not only reiterate their commitment, which may include extending the deal till 2019, oil prices are likely to rally. However, if the meeting ends without action, or the common OPEC jawboning, it is likely that prices will fall. If whispers of an “exit” are heard, confidence in oil markets may drop dramatically and bears will likely come rushing back.
What other factors should analysts look for when it comes to driving crude prices down in the coming year? One of the most notable is the brewing trade war between two of the biggest economic behemoths of the world: USA and China. As mentioned above, the increasingly hawkish U.S. administration may chance the face of U.S. foreign policy, and in this case it will likely be bearish for oil markets. Trump has proposed steel and aluminum tariffs (25 percent on former and 10 percent on latter). He is looking to impose a further $60 billion of tariffs in other areas. China quickly retaliated to these first sanctions – and has claimed that it will match Trump’s every step in this regard. Trump is now planning another $100 billion tariff plan for China. Talk of a fully blown trade war may be premature, but the first signs are certainly there. Oil prices have fallen each time that the trade war escalates, with one key consequence of a trade war being a fall in oil demand as U.S. exports to the world’s largest oil consumer fall. While the Iran wild card may threaten to push oil prices up – a trade war between China and the U.S. would have the opposite effect.
Related: Strong Demand, Not OPEC, Is Pushing Oil Prices Higher
As with all discussions in global oil markets today, the remarkable growth of U.S. shale growth cannot be avoided. With production touching 10.5 mbpd and only growing, the downward pressure in markets from shale could be very significant in the right environment. The EIA says that US crude oil output will rise to 11.44 mbpd next year (a revision from 11.27 mbpd from last month). Fatih Birol, speaking during 16th International Energy Forum recently, said that “another wave of shale oil is on its way”, and added that, beyond the U.S., there will be growth in offshore production from Brazil and parts of Africa as well. This production is all being driven by the recent rise in oil prices, forming what could become a vicious circle for oil markets. One bit of good news that oil analysts can take from this however, is that U.S. firms appear to have learnt their lessons from the oil price crash. Shale companies have hedged a large portion of production and are finally becoming profitable for investors.
Bulls and bears will continue to clash in the oil markets, and while bulls currently have the upper hand, it is unlikely they will maintain their dominance all year. Among the factors mentioned above, some are temporary (geopolitical), some are uncertain (OPEC) and some are more or less permanent (shale growth). Analysts should focus on trends, watching each of these factors and understanding how different outcomes may move markets.
By Osama Rizvi for Oilprice.com
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Geopolitical tension around the world could add a few dollars to the oil prices but only if the market is balanced. A weak demand for oil or a glut will nullify the impact of geopolitics on oil prices as was the case during the period 2014-2017.
The oil market trusts OPEC’s and Russia’s commitment to the OPEC/non-OPEC production cut agreement and also trusts Saudi Arabia and Russia when they confirm that not only the agreement is here to stay but it will continue in one way or another for many years to come.
The oil market also knows that US withdrawal from the Iran nuclear deal will not lead to a loss of a single barrel of Iranian oil exports. Iran will accept the petro-yuan as payment for its oil exports thus bypassing the petrodollar. This will virtually nullify the impact of any new US sanctions against Iran.
One important factor is that the oil market is ignoring the bearish news of rising US oil production because it no longer believes in EIA’s claims. There you have it.
Dr Mamdouh G Salameh
International Oil Economist
Visiting Professor of Energy Economics at ESCP Europe Business School, London