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Bumpy road ahead for crude oil as world economies reopen at varying pace

For the time, WTI prices can look to trade in the $60-$65 range until there is a clear sign of resumption in international passenger aviation.

May 05, 2021 / 11:38 AM IST
Source: Reuters

Source: Reuters

Oil prices ended on a positive note in April, with a slew of positive economic data and signs of a budding summer fuel consumption revival in the US offsetting a worsening coronavirus crisis in countries like India and Japan.

There is a tug of war between supportive news from the US, the world's largest oil consumer, and downbeat reports from India, the third-biggest consumer. The US is, however, going to lead the demand recovery and now that COVID-19 cases are declining across most of Europe, there is excitement around a strong pick-up in global economic activity and improved air travel in the coming months.

In China, meanwhile, there is no cause for concern. The country China appears to be containing the spread of the virus reasonably well with accelerated vaccine rollout. Its economic growth is pretty impressive even though it was the epicentre of the outbreak in the initial days. Analysts believe the demand for crude oil will grow as the economy goes full steam.

Iran sanction worries are back with a strong possibility of the country agreeing to a new nuclear deal and if that happens, it will waste no time in selling its most precious commodity, the crude oil, to revive its economy, battered by three-year US sanctions and the pandemic.

It can raise its exports to 2.5 million barrels a day once the sanctions are lifted. When Iranian oil reaches the market, there will be a measurable effect on the supply of the commodity. With the presidential elections in Iran just two months away, Iranians cannot afford to lose a moderate statesman in their hour of need. The US, too, cannot let this opportunity slip away before a hardliner takes up the reins in Iran. There have been reports that China continued to buy Iranian oil despite the sanctions. It will only step it up if the sanctions end, as China’s economy is growing again.

Close

Since the main global economic engines are going to be full steam ahead, the excess supply may not make a serious dent in prices in the foreseeable future. Any breakthrough in the talks that leads to the lifting of the sanctions will likely hit sentiment in the short term.

As markets move into May, OPEC+ supply will begin to increase, while output had already expanded in April on more supply from Iran, the biggest increase among all OPEC members.

Iran supplied 2,00,000 barrels a day in April to reach an output of 2.5 million barrels per day. As a result, the total production of all 13 members of OPEC rose by 1,00,000 barrels a day month-over-month to 25.17 million barrels per day in April.

Given that OPEC+ will start to gradually ease production cuts this month, along with Saudi Arabia, markets could see almost 530Mbbls/d of additional supply coming back over May.

Russia’s production data for April shows that crude oil and condensate production averaged 10.46MMbbls/d, up from 10.26MMbbls/d the month before. This can lead to a glut when markets are in dire need of a supply-demand balance.

On vaccine optimism, unfortunately, not all national campaigns are equal. While the US and the UK have administered enough shots to protect more than one-third of their populations, they are in a very small group of countries to have reached that milestone.

In Europe and Canada, vaccination rates are roughly half that level. Other parts of the world like India, Japan and Brazil are even further behind.

India matters, whether OPEC+ likes it or not

Oil investors are trying to ignore the catastrophic COVID spread in India which has logged more than 20 million infections. The new lockdown measures in India and Brazil are forcing many to revise their fuel demand forecasts.

India's COVID-19 crisis can slash an extra 5,75,000 Bpd of oil demand in April and 9,15,000 bpd in May 2021, disturbing the almost balanced global oil market and building a sizable glut.

Preliminary data for Indian fuel demand shows that gasoline demand fell 6.3 percent month on month to 2.14mt, the lowest since August. Diesel demand saw just a 1.7 percent decline MoM to a total of 5.9mt over the month.

Indian refineries are diverting oxygen produced at their plants to hospitals to help battle a serious second wave, which has led to fuel sales tumbling during the first half of April compared with the previous month. Fuel sales in India could have been worse in April but for elections in some states that helped spur demand as thousands of people attended rallies and members of political parties used vehicles for campaigning. But with the elections over and the virus still spreading, there could be a deeper impact in May. As the second wave is not showing signs of a peak, markets can see further downside to fuel demand over May.

All in all, it looks like markets have to live with the pandemic for another year until it naturally dies down despite the speed of the vaccine rollout and its success. This is what happened with the Spanish flu pandemic in 1918 that lasted two years–despite the absence of a vaccine rollout.

The outlook for oil markets is clouded by uncertainty over the speed of the demand recovery.

Higher prices at this point will probably trigger accelerated drilling and production from the US shale plus faster production increases from OPEC+, ensuring prices become progressively unstable above $70. Significantly lower prices can lead to a response from OPEC+ as well as discourage the reactivation of US well drilling and completions.

Conclusion

For oil prices, it looks like a bumpy road ahead as the world's economies reopen at varying pace. The viral onslaught in India is the most notable threat to recovery. The post-COVID-19 demand recovery is still uneven and the surge in Indian cases serves as a timely reminder that any rally to $70 is too premature at this point. Such levels can only be seen when demand improves materially and destocking ends. For the time, WTI prices can trade in the $60-$65 range, till there is a clear sign of resumption in international passenger aviation.

Disclaimer: The views and investment tips expressed by experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.
Navneet Damani is the VP – Commodity Research at Motilal Oswal Financial Services.
first published: May 5, 2021 11:38 am

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