Fragile market: handle with care

Published at 12:20 15 Jul 2019 by

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Brent prices are stuck around $65—the supply issues make it risky to short crude at current prices, but demand concerns are a barrier to the market going long. For us, an improvement in the macroeconomic picture is a precondition to restoring confidence in the oil market. Supply has done as much as it can. Now it’s up to demand.

Brent timespreads have been weak amid a prompt crude overhang driven by run cuts, although the surplus is clearing as margins have recovered strongly and we believe crude differentials should be stronger from the next trade cycle. Crude draws have begun in earnest and even backward-looking data show less-than-seasonal builds in the OECD in May, in total contrast to preliminary data. By end-June, crude stocks were at a 14.1 mb deficit to the five-year average.

The crude market, even with demand this weak, is tight by any measure; so should demand manage to stabilise a little, the upside to both Brent timespreads and flat price is substantial, especially with the upcoming IMO 2020 transition set to favour light sweet crudes. Indeed, as long as demand is slowing but not collapsing, deferred Brent spreads appear too weak.

In many ways, the question is whether the soft patch in demand we are experiencing now is the nadir or if it can get worse still. We expect a 1.8 mb/d q/q swing up in global oil demand in Q3 19 even after factoring in a broad-based trade-related slowdown. We have yet to see a wholesale pullback on Capex by companies as the market still believes that the US and China can deliver on a trade agreement before the 2020 US elections. In this context, the Q2 19 earnings reports (in August) will be combed for any hints that companies are pulling back on spending.

Russian oil production, mb/d Brent spreads, $ per barrel
Russian oil production Brent spreads
Source: Refinitiv, Energy Aspects  Source: Datastream, Energy Aspects

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