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Brent crude is crawling higher but its feet are slipping

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SEB - analysbrev på råvaror

Price action – Marginal gains in the front but losses in the back end curve

SEB - Prognoser på råvaror - CommodityFrom Friday to Friday last week Brent 1mth crude gained 0.3% to $55.99/b. Longer dated contracts however continued to erode with the Brent December 2020 contract losing 1.1% to $54.84/b. In perspective it closed at the lowest level since April 2016 last week when it closed at $54.47/b last Wednesday. With muted price action the volatility naturally continued lower last week with 30 day rolling annualized volatility for the 1mth contract ending last week at 20.3% down from 25.1% Friday the week before. We have not seen such a low level of volatility since October 2014 and it is likely to continue yet lower. Probably heading to 15%. Shale oil flexibility clearly helps to mute the price action. In addition the market is now close to balance and lower volatility is natural in such a situation. However, the longer term normal volatility in the crude oil market is about 30%. Thus we are probably heading towards half of the historical normal level.

OPEC is tightening up the front end market but reviving US crude oil production is softening the medium term balance

Oil projectionsOPEC is delivering on cuts thus driving the market increasingly into backwardation. This is pushing front month contract higher versus longer dated contracts. However, longer dated contracts are slipping thus leaving the Brent 1mth contract with little gain despite a gradual shift to backwardation. There is still some contango in the very front of the forward curve but overall the Brent 1mth contract is now trading above the Brent Dec-2020 contract. At close on Friday we had Brent 1mth at 55.99/b and Dec-2020 at 54.84/b. Thus for Brent 1mth, it is trying to crawl higher but its feet are slipping. Longer dated contracts are slipping.

OPEC is tightening up the front, but recovering US shale production is loosening up the longer dated part of the balance. That is why the longer dated contracts are slipping. US crude production last week rose above 9 mb/d for the first time since April 2016. For lower 48 production (where shale is the lion’s share), production rose by 17 kb/d w/w. Multiply by 52 and you get an annualized US production growth rate of 0.9 mb/d YoY. I.e. US shale oil production growth is back! If the +17 kb/d w/w was only noise it would mean nothing, but it is a trend. Our projection is for US shale oil production to grow at 18 kb/d w/w in February, 23 kb/d w/w in March and then gradually rising to 36 kb/d w/w in September equaling an annualized production growth rate of 1.9 mb/d before the growth rate is moderating after that again.

Since October 2016 US crude production has on averaged increased by 27.6 kb/d w/w. Most of this is probably not due to recovering shale oil production but rather due to commissioning of prior investments in the Gulf of Mexico. However, now onwards US crude production is going to increase on a weekly basis due to recovering US shale oil production.

OPEC is successful in its effort to dry up the market and shifting the crude oil forward curve into backwardation. It had probably hoped for a situation where the longer dated contracts stands at $55-60/b with Brent 1mth contract trading at a backwardation premium of some $5/b above that. It will probably get its $5/b backwardation premium but longer dated contracts are likely to slip lower thus leaving OPEC with limited gain at the front end of the curve. We still think that Brent crude will average $57.5/b in Q2-17 as also the front end of the curve is flipping into backwardation. The erosion in the longer dated contracts is likely to continue.

US oil rig count last week increased 5 rigs but implied shale oil rig count went up by 12 as directional and vertical count fell back. Over the last two weeks the US implied shale oil rig count is up by 15 or 7.5/week which is marginally higher than our projected 7 rigs per week for H1-17. This shifts our dynamic price forecast for 2019 marginally lower from $68.3/b to $67.9/b.

Over the last two weeks weekly inventory data for the US, EU, Singapore and floating storage has moved down by 3.1 mb and 9.7 mb respectively last two weeks. OPEC’s medicine is working shifting the market increasingly into backwardation as a result. Declining inventories – that’s the proof of the pudding. That makes investors bullish. Not surprisingly speculative positions in WTI increased yet higher to a new record last week.

Analys

Brent prices slip on USD surge despite tight inventory conditions

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Brent crude prices dropped by USD 1.4 per barrel yesterday evening, sliding from USD 74.2 to USD 72.8 per barrel overnight. However, prices have ticked slightly higher in early trading this morning and are currently hovering around USD 73.3 per barrel.

Ole R. Hvalbye, Analyst Commodities, SEB
Ole R. Hvalbye, Analyst Commodities, SEB

Yesterday’s decline was primarily driven by a significant strengthening of the U.S. dollar, fueled by expectations of fewer interest rate cuts by the Fed in the coming year. While the Fed lowered borrowing costs as anticipated, it signaled a more cautious approach to rate reductions in 2025. This pushed the U.S. dollar to its strongest level in over two years, raising the cost of commodities priced in dollars.

Earlier in the day (yesterday), crude prices briefly rose following reports of continued declines in U.S. commercial crude oil inventories (excl. SPR), which fell by 0.9 million barrels last week to 421.0 million barrels. This level is approximately 6% below the five-year average for this time of year, highlighting persistently tight market conditions.

In contrast, total motor gasoline inventories saw a significant build of 2.3 million barrels but remain 3% below the five-year average. A closer look reveals that finished gasoline inventories declined, while blending components inventories increased.

Distillate (diesel) fuel inventories experienced a substantial draw of 3.2 million barrels and are now approximately 7% below the five-year average. Overall, total commercial petroleum inventories recorded a net decline of 3.2 million barrels last week, underscoring tightening market conditions across key product categories.

Despite the ongoing drawdowns in U.S. crude and product inventories, global oil prices have remained range-bound since mid-October. Market participants are balancing a muted outlook for Chinese demand and rising production from non-OPEC+ sources against elevated geopolitical risks. The potential for stricter sanctions on Iranian oil supply, particularly as Donald Trump prepares to re-enter the White House, has introduced an additional layer of uncertainty.

We remain cautiously optimistic about the oil market balance in 2025 and are maintaining our Brent price forecast of an average USD 75 per barrel for the year. We believe the market has both fundamental and technical support at these levels.

Oil inventories
Oil inventories
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Analys

Oil falling only marginally on weak China data as Iran oil exports starts to struggle

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Up 4.7% last week on US Iran hawkishness and China stimulus optimism. Brent crude gained 4.7% last week and closed on a high note at USD 74.49/b. Through the week it traded in a USD 70.92 – 74.59/b range. Increased optimism over China stimulus together with Iran hawkishness from the incoming Donald Trump administration were the main drivers. Technically Brent crude broke above the 50dma on Friday. On the upside it has the USD 75/b 100dma and on the downside it now has the 50dma at USD 73.84. It is likely to test both of these in the near term. With respect to the Relative Strength Index (RSI) it is neither cold nor warm.

Lower this morning as China November statistics still disappointing (stimulus isn’t here in size yet). This morning it is trading down 0.4% to USD 74.2/b following bearish statistics from China. Retail sales only rose 3% y/y and well short of Industrial production which rose 5.4% y/y, painting a lackluster picture of the demand side of the Chinese economy. This morning the Chinese 30-year bond rate fell below the 2% mark for the first time ever. Very weak demand for credit and investments is essentially what it is saying. Implied demand for oil down 2.1% in November and ytd y/y it was down 3.3%. Oil refining slipped to 5-month low (Bloomberg). This sets a bearish tone for oil at the start of the week. But it isn’t really killing off the oil price either except pushing it down a little this morning.

China will likely choose the US over Iranian oil as long as the oil market is plentiful. It is becoming increasingly apparent that exports of crude oil from Iran is being disrupted by broadening US sanctions on tankers according to Vortexa (Bloomberg). Some Iranian November oil cargoes still remain undelivered. Chinese buyers are increasingly saying no to sanctioned vessels. China import around 90% of Iranian crude oil. Looking forward to the Trump administration the choice for China will likely be easy when it comes to Iranian oil. China needs the US much more than it needs Iranian oil. At leas as long as there is plenty of oil in the market. OPEC+ is currently holds plenty of oil on the side-line waiting for room to re-enter. So if Iran goes out, then other oil from OPEC+ will come back in. So there won’t be any squeeze in the oil market and price shouldn’t move all that much up.

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Analys

Brent crude inches higher as ”Maximum pressure on Iran” could remove all talk of surplus in 2025

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SEB - analysbrev på råvaror

Brent crude inch higher despite bearish Chinese equity backdrop. Brent crude traded between 72.42 and 74.0 USD/b yesterday before closing down 0.15% on the day at USD 73.41/b. Since last Friday Brent crude has gained 3.2%. This morning it is trading in marginal positive territory (+0.3%) at USD 73.65/b. Chinese equities are down 2% following disappointing signals from the Central Economic Work Conference. The dollar is also 0.2% stronger. None of this has been able to pull oil lower this morning.

Bjarne Schieldrop, Chief analyst commodities, SEB
Bjarne Schieldrop, Chief analyst commodities, SEB

”Maximum pressure on Iran” are the signals from the incoming US administration. Last time Donald Trump was president he drove down Iranian oil exports to close to zero as he exited the JCPOA Iranian nuclear deal and implemented maximum sanctions. A repeat of that would remove all talk about a surplus oil market next year leaving room for the rest of OPEC+ as well as the US to lift production a little. It would however probably require some kind of cooperation with China in some kind of overall US – China trade deal. Because it is hard to prevent oil flowing from Iran to China as long as China wants to buy large amounts.

Mildly bullish adjustment from the IEA but still with an overall bearish message for 2025. The IEA came out with a mildly bullish adjustment in its monthly Oil Market Report yesterday. For 2025 it adjusted global demand up by 0.1 mb/d to 103.9 mb/d (+1.1 mb/d y/y growth) while it also adjusted non-OPEC production down by 0.1 mb/d to 71.9 mb/d (+1.7 mb/d y/y). As a result its calculated call-on-OPEC rose by 0.2 mb/d y/y to 26.3 mb/d.

Overall the IEA still sees a market in 2025 where non-OPEC production grows considerably faster (+1.7 mb/d y/y) than demand (+1.1 mb/d y/y) which requires OPEC to cut its production by close to 700 kb/d in 2025 to keep the market balanced.

The IEA treats OPEC+ as it if doesn’t exist even if it is 8 years since it was established. The weird thing is that the IEA after 8 full years with the constellation of OPEC+ still calculates and argues as if the wider organisation which was established in December 2016 doesn’t exist. In its oil market balance it projects an increase from FSU of +0.3 mb/d in 2025. But FSU is predominantly part of OPEC+ and thus bound by production targets. Thus call on OPEC+ is only falling by 0.4 mb/d in 2025. In IEA’s calculations the OPEC+ group thus needs to cut production by 0.4 mb/d in 2024 or 0.4% of global demand. That is still a bearish outlook. But error of margin on such calculations are quite large so this prediction needs to be treated with a pinch of salt.

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