Sentiment in the physical oil market versus the paper market is starting to diverge again, although this time it is the physical market that is bullish. Sweet-sour switching is fully underway as sour crude refining margins have compressed substantially and refiners must start to ration sour crudes now, which should benefit Brent timespreads and widen Brent-Dubai.
But the paper market remains wary. There is extensive concern around EM demand, keeping several macro funds from going long oil even with a bullish supply side. But the US dollar isn’t weakening against all EM currencies; it is doing so against ‘the fragile five’—India, Brazil, Turkey, South Africa and Indonesia. This is a case of asset re-allocation rather than systematic risk-off.
China is the other source of macro concern, with weak economic data reflecting the Chinese government orchestrated slowdown. But with the trade battle with the US escalating, reversing the economic slowdown is now Beijing’s priority. This is supporting oil demand, particularly diesel, but will take a few months to filter through to the economic data. So, absent an acceleration in the deterioration within EM countries, the near-term risks to oil demand is negligible, especially as Chinese demand growth is on the rise again and Indian demand remains robust.
This means timespreads can outperform flat price in the near term. The east has been on fire, with Oman trading at unprecedented differentials above Dubai. Moreover, near-term spare capacity is low. Saudi Arabia has anecdotally started the 0.3 mb/d Khurais field expansion (but likely at low rates), but the start of the Neutral Zone is still a few months away. So, should there be any further outages, even EM demand worries may struggle to keep a lid on prices.
|Forties NWE Urals differential, $ per barrel||Chinese domestic prices, $ per barrel|
|Source: Argus, Energy Aspects||Source: Reuters, Energy Aspects|