The ink has barely dried on the highly-anticipated OPEC+ deal, but the oil market is moving on, growing concerned about other issues.
Oil prices gained around 4 percent immediately after OPEC+ announced that it would slash output by 1.2 million barrels per day (mb/d) beginning in January. The deal was largely a success, with both OPEC and non-OPEC members, including Russia, signing on to collective supply curbs in excess of what the market expected.
However, oil fell on Monday, with prices right back to where they were before the agreement was announced. How is it that the market is unmoved by such a development?
OPEC+ is doing everything it can to zero out the surplus in the early part of 2019, but oil traders, at least as of now, are ignoring that fact, and are instead much more worried about the growing cracks in the global economy.
On Monday, there was no shortage of concerns. British Prime Minister Theresa May delayed a vote on her Brexit deal, as she realized she did not have the votes in the parliament. The political disaster pushed the British pound down to its lowest point in 18 months. The legal troubles surrounding President Trump also raise uncertainty.
More importantly, the trade war between the U.S. and China is alive and well. U.S. Trade Representative Robert Lighthizer said on Sunday that March 1 was a “hard deadline” for the negotiations with China, reigniting fears of the trade war. “The way this is set up is that at the end of 90 days, these tariffs will be raised,” Lighthizer said.
Global equities are now off by 8 percent this year, and U.S. stocks have erased all of their gains and are also now in negative territory. Financial markets have gyrated over the past few weeks, spiking on the seeming breakthrough in trade at the Trump-Xi meeting, only to crash in subsequent days. Related: Is Gasoline Demand Really Slipping?
Falling oil prices themselves have been a benefit to emerging market consumers. Some currencies have regained some losses. Turkey’s lira has gained more than 3 percent against the U.S. dollar since the oil slide began more than a month ago, so too has India’s rupee. Moreover, some of the economic trouble could be offset by a change of course at the U.S. Federal Reserve. Fed Chair Jerome Powell could offer more clues into the central bank’s plans later this month, but has opened the door to a softer line on interest rates.
All of these variables have rocked oil markets. In fact, while oil prices have bounced around, losing ground immediately after posting gains, the one thing that is definitely up is volatility. Some blame the increasing role that computerized algorithms play in oil trading, as the Wall Street Journal pointed out. “With no discretionary money to take the other side, market liquidity is drying up, which reinforces the momentum to the downside,” analysts at Goldman Sachs wrote in a note, referring to the diminishing role that discretionary commodity funds have played in buying and selling oil on a given day.
Still, the prospect of an economic downturn is real. More signs continue to crop up. The U.S. housing market is already slowing down, as are auto sales. Financial markets look spooked. The S&P 500 posted several consecutive days of one-day declines in excess of 3 percent. Related: Saudi Arabia’s Biggest Geopolitical Error
Oil traders have become downbeat regarding oil, even in the face of a major OPEC+ production cut. Hedge funds and money managers recently slashed their bullish bets on Brent oil futures to the lowest level in three years. As John Kemp of Reuters notes, major funds now hold only two long positions for every short, a ratio that stood at 19:1 as recently as September.
Still, investors could just as easily become more bullish on oil. If the dark clouds over the global economy abate, traders may turn their sights back to the OPEC+ deal, which is, at least on paper, on track to eliminate the supply surplus in the first half of 2019.
After all, much of the analysis discussed above – sentiment, capital flows, political uncertainty – is important, but the OPEC+ deal will have a significant tangible impact on the fundamentals. The group is set to cut at least 1.2 mb/d of supply from the market, while beleaguered producers – Iran, Libya, Venezuela and Nigeria – could add more losses.
That should firm up prices. After the OPEC+ agreement, “people will start to be a little more comfortable deploying net-length into the sector,” Chris Kettenmann, chief energy strategist at Macro Risk Advisors LLC, told Bloomberg. “OPEC has basically said, we’ve got you, we’re going to take down production.”
By Nick Cunningham of Oilprice.com
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