The oil bulls are in for a rough ride as the oil price crash shows no signs of reversing. Brent and WTI crude have both tumbled below $100/bbl for the first time in months as fears of a global economic slowdown as well as an overly strong dollar continue to rout commodities and stocks. Brent crude was trading at $99.14/bbl at 1000 hrs ET in Wednesday's intraday session, while WTI was changing hands at $95.90/bbl, marking the third consecutive day of declines. Oil then swung to a gain before dipping again around noon.
Also weighing on the markets are fears of further demand destruction after Shanghai and some other Chinese cities started enacting fresh COVID-19 restrictions ranging from business shutdowns to broader lockdowns in an effort to control the spread of the latest Covid-19 variant.
The latest selloff has extended the energy sector's losing streak and plunged it into bear territory for the first time in months. It has also reversed a recent trend where the sector was outperforming all other 10 market sectors to a situation where it's underperforming virtually everything. The selloff has been so deep that prices have crashed all the way along the futures curve. For instance, Brent for December 2023 shed 8.8% on Tuesday to trade at its lowest level since March, almost as much as nearby prices. Market experts have also interpreted the slide as a sign that some oil producers have been selling longer-dated contracts to hedge their supplies. Although such volumes have so far been rather modest, they can still compound the pressure on nearby futures.
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A brawny dollar has also not been helping oil and commodity prices as the leading currency continues to be the world's preferred safe haven during these turbulent times.
"Capital flooding into U.S. dollars, which has sent [the dollar] soaring... appears to be putting a headwind in front of commodity prices," Colin Cieszynski, chief market strategist at SIA Wealth Management, has told MarketWatch.
The bad news for the oil bulls is that there's little reprieve on the horizon, with the latest data showing that inflation in the United States hit a torrid 9.1% clip in June, the highest reading since 1981, once again exceeding expectations and raising the odds the Fed will continue its aggressive rate-hike regime.
Source: The Financial Post
Recession Fears
Months of dwindling liquidity, alongside heavy technical selling as well as hedging activity by oil producers, have all contributed to the ongoing oil price slide. However, the biggest driver has been concerns about a possible recession and an overly hawkish Fed, which have served to undermine the idea of oil prices being a means of hedging against inflation.
"Recession fears likely pushed some investors out of the oil trade as an inflation hedge," Giovanni Staunovo, analyst at UBS Group AG, has told Bloomberg.
Last month, Federal Reserve officials determined to maintain an aggressive interest rate hike regime in a bid to cool down inflation and prevent it from becoming entrenched, even if that means slowing down the U.S. economy. According to minutes of the Federal Open Market Committee's June 14-15 policy meeting, the central bank plans to increase rates by either 50 or 75 basis points at its next meeting slated for July 26-27, hot on the heels of a 75-basis points raise in June--the biggest in nearly three decades. Indeed, it's June's massive hike that triggered the ongoing oil price selloff, meaning the oil bulls might not get a much-needed reprieve any time soon.
That said, the closely watched physical oil markets that give important clues to supply-demand trends have largely remained unchanged, with supply remaining tight and demand still high. Physical barrels are still fetching huge premiums over their benchmarks, so much so that Saudi Arabia recently lifted its prices to Europe to a record just hours before the plunge in futures. Meanwhile, prices of diesel and gasoline remain well above crude, giving refineries a big incentive to buy barrels.
On a certain level, Saudi Arabia's 'mad' decision to hike prices in this environment appears to make sense.
After all, refining margins have gone amok, with the profit from making a barrel of gasoil at a typical Singapore refinery hitting an all-time high of $68.69 on June 24. Although the margin has since retreated to $41.80 a barrel, it's still almost 4x higher than the $11.83 at the end of last year, and a staggering 550% above the profit margin at the same time in 2021.
If anything, the market appears bound to get even tighter, with Libya's output plunging and Kazakhstan's exports at risk.
Meanwhile, President Biden is expected to make the case for higher oil production from OPEC when he meets Gulf leaders in Saudi Arabia this week. However, little is expected to come of it, with OPEC struggling to ramp-up production and ease market tightness.
By Alex Kimani for Oilprice.com
Alex Kimani is a veteran finance writer, investor, engineer and researcher for Safehaven.com. More
Comments
In normal circumstances, a recession does cause a demand destruction leading to a decline in oil prices. However, we aren’t in normal circumstances. A recession coming now will neither cause a demand destruction nor lead to a decline of prices because of the tightness of the global oil market, shortages in the market and a fast-shrinking global spare oil production capacity including OPEC+’s.
That is why I am projecting that oil prices will soon resume their surge with Brent crude heading toward $120 a barrel before the end of the year. The reason is that the market fundamentals are still as a strong as they were before the Ukraine conflict.
Dr Mamdouh G Salameh
International Oil Economist
Visiting Professor of Energy Economics at ESCP Europe Business School, London