Oil prices are set to crash if the exogenous shock coming out of coronavirus does not stop.
The new year has not been good for crude oil as investors have dumped the black gold and turned to gold on account of its safe-haven appeal. Crude oil prices have lost momentum in 2020, with a fall of around 12 percent (for Brent as well as WTI crude and MCX crude futures).
The spread of coronavirus across the globe has been the prime reason for pessimism across global markets. Although the real supply and demand fundamentals remain stable for the commodity, investors are eyeing whether the virus will be contained or not in the days to come.
What goes behind the price moves?
The International Energy Agency (IEA) commented in January 2020 that the first quarter 2020 oil demand is set to fall versus a year earlier for the first time since the financial crisis of 2009 because of the coronavirus outbreak in China. Moreover, China is also expected to grow at the slowest rate in the first quarter of 2020 due to the same reason.
On the other hand, money managers cut their combined futures and options position in New York and London by 28,341 contracts to 118,732 in the week ended February 18.
Brent crude speculators also cut their net long positions in the week, cutting positions by 841 to 282,590, according to data from the Intercontinental Exchange (ICE). That was the lowest level since early November.
The global economy grew by an estimated $1.66 trillion in 2019. Around $0.78 trillion of that additional output came from China. In short, China accounted for around half of global growth in 2019. It was expected to account for more than a third of global growth in 2020 as well. All is not well in China means global growth goes for a toss and the International Monetary Fund estimates that Chinese growth in 2020 will see a 0.4 percentage point drop, leading to a 0.1 percentage point cut in its global growth forecast.
Oil demand set to fall
The OPEC nations, US Energy Information Administration (EIA) and the International Energy Agency (IEA) have estimated a fall in oil demand in 2020.
OPEC said the demand for its crude will average 29.30 million barrels per day (bpd), 200,000 bpd less than previously thought.
The IEA said for 2020 as a whole, it had reduced its global growth forecast by 365,000 bpd to 825,000 bpd, the lowest since 2011. Demand in the first quarter of 2020 is expected to fall by 435,000 bpd compared with a year earlier.
In the second quarter, it said, it expected oil demand to grow 1.2 million barrels per day before normalising in the third quarter with a growth of 1.5 million bpd on likely economic stimulus measures in China.
The IEA said Chinese refiners were set to slash runs by 1.1 million bpd in the first quarter, with throughput in 2020 contracting by 500,000 bpd year on year.
Oil prices are set to crash if the exogenous shock coming out of coronavirus does not stop. Although governments across are taking rightful actions to prevent the virus from spreading, if it turns out to be an economic catastrophe, the global oil demand will slow down and will result in a recessionary scenario as was witnessed in 2008.
The cut down in oil demand by EIA, IEA and OPEC clearly indicates that the slowdown has seeped in across all the major economies and it will take time to bring back the situation to normal.
However, the world lives on hope and the event (coronavirus) going out of control looks less likely as the number of coronavirus cases reported from China have been reducing as per the recent report from Refinitiv and the possibility of oil prices falling fast is just an assumption, if things don't fall in place.
From a month perspective, we expect WTI oil prices to fall towards $43 per barrel mark, while on the MCX futures, oil prices might move lower towards Rs 3,100 per barrel mark in the same time frame.
(The author is Chief Analyst Non-Agri-Commodities and Currencies at Angel Broking.)
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