Analys
Oil price is mostly fundamentals, not geopolitical risk premium
Brent crude has recovered to above USD 90/b again. Risk premium due to Israel/Gaza? Maybe not so much at all. Latest data from the IEA indicates that the global oil market ran an implied deficit of 2.1 m b/d in August, a deficit of 0.7 m b/d in September and a likely deficit of 1.2 m b/d in Q4-23. Inventory draws have mostly taken place in floating stocks and in non-OECD. Inventories which are typically harder to track. Demand growth of 2.3 m b/d this year has more or less entirely taken place in non-OECD. As such it is not so strange that inventory draws have first taken place just there as well. But if we continue to run a deficit of 1.2 m b/d in Q4-23 then we should eventually see OECD stocks starting to draw down as well. This should keep oil prices well supported in Q4-23. The US EIA last week lifted its outlook for Brent crude for 2024 to USD 95/b (+7) on the back of slowing US shale oil growth leaving OPEC in good control of the market.
Brent crude sold off sharply at the end of September as longer dated bond yields rallied and markets feared that central banks would keep rates high for longer leading to a recession in the end with associated weak oil demand and falling oil price. One can of course question if that is the right interpretation. If market had really turned bearish on the economic outlook (recession, crash,..), then longer dated bond yields should have gone down and not up as they did. Hm, well, maybe oil was just ripe for a bearish correction following a long upturn in prices since late June and only needed some kind of bearish catalyst story to set off that correction in late September. The sell-off was short-lived as the attack on Israel by Hamas on 7 October made oil jump back up above USD 90/b again. The low-point in the recent sell-off was a close of USD 84/b on 6 October. With Brent crude now at USD 90/b the most immediate interpretation is that we now have a USD 6/b risk premium in the oil price due to Israel/Hamas/Gaza. The fear is that the conflict might spiral out and eventually lead to real loss of supply with Iran being most at risk there. But such geopolitical risk premiums are usually short-lived unless actual supply disruptions occur. The most immediate fear is that the US would impose harsher sanctions towards Iran which is Hamas’ biggest backer. But US Treasury Secretary Jannet Yellen stated on 11 Oct that the US has no plans to impose new sanctions on Iran.
So let’s leave possible recession fears as well as geopolitical risk premiums aside and instead just look at the current state and the outlook for the oil market. The three main monthly oil market reports from IEA, US EIA and OPEC were out last week. One thing that stands out is a continued disagreement of what oil demand is today and what it will be tomorrow. On 2024 the IEA and the EIA partially agrees while OPEC is in a camp of its own. But one thing is to have strongly diverging outlooks for demand in 2024. Another is to have extremely wide estimates for what demand is here and now in Q4-23. This shows that there is still a very high uncertainty of what is actually the current state of the oil market. Deficit, balanced, surplus?
The most prominent of the three reports, the IEA, made few changes to its overall projects vs. its September report. Changes were typically +/- 100 k b/d or less for most items. The reports was however still very interesting with respect to clues to what is the actual state of the market balance. The proof of the pudding is always the change in oil inventories and as such always in hindsight. IEA data showed that global oil inventories declined by 63.8 m b in August which equals a deficit of 2.1 m b/d. Preliminary inventory data for September indicates an implied deficit of 0.7 m b/d.
Important here is that the stock draws in August mostly took place in oil on water and in non-OECD. These stocks are typically less easily observable. Oil markets are often highly focused on more easily observable data like the weekly US oil inventories as well as EU and Japan. The US commercial crude and product stocks have moved upwards since week 35 (late August) so that in the last data point the US commercial stocks are only 10 m b below the 2015-19 seasonal average. This has undoubtedly been a bearish factor for oil prices lately and probably contributed to the sell-off in late September, early October.
US crude and product stocks (excl. SPR)
1) The global August and September (indic.) inventory data from IEA gives credibility to its current assessment of the global oil market. For Q4-23 it estimates Call-on-OPEC at 29.3 m b/d. Russia and Saudi Arabia last week held a joint statement heralding that they would keep production at current level to the end of year. With OPEC production steady at 28 m b/d it implies a global oil market deficit of 1.2 m b/d. For H1-24 its estimates a call-on-OPEC of 27.7 m b/d. This means that Saudi Arabia and Russia will likely stick to their current production levels also in H1-24. But then the market will likely be balanced rather than in deficit like it has been in Q3-23 and Q4-23.
2) The global oil market is very large with significant dynamical time lags. IEA estimates a global consumption growth this year of 2.3 m b/d. China accounts for 77% of this and non-OECD accounts for 97%. So oil demand growth this year is all taking place in non-OECD. As such it is not so surprising that inventory draws have been taking place there and on-water rather than in the OECD. But a global deficit will eventually involve also the OECD inventories. The demand-pull this year has been all about non-OECD. First you draw down non-OECD supply chains, inventories and on-water oil. Then you start to pull more oil from the wider market which eventually involve a draw-down also in OECD inventories. IEA’s estimate of an implied deficit of about 1.2 m b/d in Q4-23. So if we have already drawn down non-OECD supply chains and oil on water we might start to see a significant draw in OECD stocks in Q4-23 if the market runs an estimated 1.2 m b/d as estimated by the IEA.
3) Worth noting however is IEA’s warning that higher oil prices are starting to hurt demand. Demand in Nigeria, Pakistan and Egypt are all down 10% or more while US demand for gasoline also has shown significant demand weaknesses. For 2024 the IEA only projects a global demand growth of 0.9 m b/d YoY along with weaker global economic growth. Non-OPEC production continues to grow robustly at 1.3 m b/d with the result that call-on-OPEC falls from 28.8 m b/d this year to 28.3 m b/d next year. This is of course negative for OPEC and gives a bearish tint to the oil market next year. But it is still not so weak that OPEC will give up on holding the price where they (Saudi/Russia) want it to be. But implies that Saudi/Russia/OPEC will have to stick to current production levels through most of 2024.
Floating crude oil stocks in million barrels
Selling down on a ”deal”. Brent crude fell 6.2% last week with accelerated weakness towards the end of the week. Close of the week at $87.33/b and low of the week (and on Friday) of $85.8/b. Brent is falling another 4% this morning to $83.7/b on confirmation by Iran that a MoU text has been reached and that it will be signed on Friday this week.
So what is this ”deal” worth? Talk on the desk here this morning is that it is much like ”putting lipstick on a pig” where Trump has to sell this at home as a victory where ”the SoH has reopened”, the nuclear issue will be ironed out over the coming 60 days (or maybe 600 days?) and US consumers are getting a lower gasoline price and maybe US republicans survives the midterm elections.
The importance for Iran is that it emerges as the defacto winner of this war in the eyes of the non-US public world. That Iran now onwards is the ”ruler of the SoH” (combo of geography and new weapons systems like drones) or more softer: ”the guarantor of safe passage through the SoH”.
Iran doesn’t need nuclear weapons any more. Nuclear deterrence doesn’t work any more. Ukraine has made many attacks deep into Russia without being nuked in return. Plenty of Iranian ballistic rockets blasts over Israel but Iran wasn’t nuked in return.
There is no trust between the US and Iran. We don’t know all the details yet of the MoU. But what we do know is that there is no trust between the US and Iran what so ever. This is probably more like a descriptive text on how they can cooperate in a way where both sides keeps tactical leverage. Neither side makes irreversible concessions. Violations can be punished quickly. Cooperation produces immediate benefits.
This is a fragile structure. It can easily break down. There may be details which cannot be overcome. To be seen on Friday. The US has to show that it is willing put enough force behind managing and restraining Israel versus Hezbollah in Lebanon. We have seen that Netanyahu hasn’t listened all that much to Trump’s directives and wishes. This could be a major obstacle.
A gradual reopening is tactically preferable for Iran. A tactical leverage for Iran right now is that global oil stocks have been drawn down towards painful and increasingly dangerous levels with increasing risks for oil price spikes in mid-July to August. This together with US midterm elections on 3 November gives tactical leverage to Iran. Iran probably doesn’t want to fully give up on that leverage. A rapid, full reopening where global stocks are able to refill over the coming 60 days will significantly erode that leverage. If Iran reinstates a closure of the SoH after 60 days (if talks break down again), then the effect won’t be that impactful in terms of prices and the US midterm elections.
So a gradual and partial reopening where global markets gets the oil they need while they are unable to rebuild stocks could be a practical middle way for both parties. Trump can sell it as ”the SoH has reopened” and get affordable gasoline for US consumers. Iran can sell it as ”the SoH has fully reopened, but there is some friction” so flow is only 60-80% of normal.
Not much real demand destruction below $100/b. What we do know is that there is not much real price pain demand destruction for oil globally at an oil price below $100/b. A lot of demand-shock destruction. Fear. But demand should now come roaring back towards normal with fear for exceptionally high prices now is rapidly receding.
Sudden China demand destruction due to EVs? Bullocks. EV share of total Chinese carpool now around 13%. Share of new sales of EVs has reached 50%. This is a very gradual process. It doesn’t make oil demand fall like a rock over night. When EV new sales share reaches 100%, then the gasoline car pool will contract by some 5-10% per year. But that is only gasoline. Sudden reduction in Chinese oil demand is more about shock and risk.
Chinese crude oil imports will come roaring back. At what price? Today’s ”neutral” oil price is $70/b. That is the five year price which has steadily traded around the $70/b mark over the past 3-4 years. With still a risky picture one would think that China and the rest of the world will be big buyers of oil in the range of $70-85/b.
Global demand will likely snap back towards normal, forecasted demand and growth at such prices.
Physical reopening is a gradual process. The physical and practical reopening of the SoH will likely be gradual rather than sudden. And that probably suites Iran tactically as well.
Brent M1 price versus the Brent 5-yr (today’s ”normal” price)
Market is starting to take US/Iran headlines with a pinch of salt. Brent crude rose $2.8/b yesterday to an official close of $112.1/b. But after that it traded as low as $108.05/b before ending late night at around $109.7/b. Through the day it traded in a range of $106.87 – 112.72/b amid a flurry of news or rumors from Iran and the US. ”US temporary sanctions during negotiations” (falls alarm). ”We will bomb Iran” (not anyhow),… etc. While the market is still fluctuating to this kind of news flow, it is starting to take such headlines with a pinch of salt.
We’ll see. Maybe, maybe not. The Brent M1 contract is trading at $110.2/b this morning which very close to the average ticks through yesterday of $110.4/b.
Trump with bearish, verbal intervention whenever Brent trades above $110/b it seems. What seems to be a pattern is that Trump states something like ”very good negotiations going on with Iran”, ”New leaders in Iran are great,..”, ”Great progress in negotiations,…”, ”Deal in sight,..” etc whenever the Brent M1 contract trades above $110/b. An effort to cool the market. These hot air verbal interventions from Trump used to have a heavy bearish impact on prices, but they now seems to have less and less effect unless they are backed by reality.
As far as we can see there has been no real progress in the negotiations between the US and Iran with both sides still standing by their previous demands.
Iran is getting stronger while the cease fire lasts making a return to war for Trump yet harder. Iran is naturally in constant preparation for a return to war given Trump’s steady threats of bombing Iran again. Iran is naturally doing what ever is possible to prepare for a return to war. And every day the cease fire lasts it is better prepared. This naturally makes it more and more difficult and dangerous for the US to return to warring activity versus Iran as the consequences for energy infrastructure in the Persian Gulf will be more and more severe the longer the cease fire lasts. Israel seems to see it this way as well. That the war is not won and that current frozen state of a cease fire gives Iran opportunity to rebuild military and politically.
Global inventories are drawing down day by day. How much? In the meantime the Strait of Hormuz stays closed. There is varying measures and estimates of how much global inventories are drawing down. Our rough estimate, back of the envelope, is that global inventories are drawing down by at least some 10 mb/d or about 300 mb/d in a balance between loss of supply versus demand destruction. Other estimates we see are a monthly draw of 250-270 mb/d. The IEA only ’measured’ a draw in global observable stocks of 117 mb in April with oil on water rising 53 mb while on shore stocks fell 170 mb. But global stocks are hard to measure with large invisible, unmeasured stocks. As such a back of the envelope approach may be better.
Oil products is what the world is consuming. Oil product prices likely to rise while product stocks fall. Strategic Petroleum Reserves (SPR) are predominantly crude oil. Discharging oil from OECD SPR stocks, a sharp reduction in Chinese crude imports and a reduction in global refinery throughput of 6-7 mb/d has helped to keep crude oil markets satisfactorily supplied. But global inventories are drawing down none the less. And oil products is really what the world is consuming. So if global refinery throughput stays subdued, then demand will eventually have to match the supply of oil products. The likely path forward this summer is a steady draw down in jet fuel, diesel and gasoline. Higher prices for these. Then, if possible, higher refinery throughput and higher usage of crude in response to very profitable refinery margins. And lastly sharper draw in crude stocks and higher prices for these. But some 6 mb/d of oil products used to be exported through the Strait of Hormuz. And it may not be so easy to ramp up refinery activity across the world to compensate. Especially as Ukraine continues to damage Russian refineries as well as Russian crude production and export facilities.
Watch oil product stocks and prices as well as Brent calendar 2027. What to watch for this summer is thus oil product inventories falling and oil product premiums to crude rising. Another measure to watch is the Brent crude 2027 contract as it rises steadily day by day as the Strait of Hormuz stays closed and global oil inventories decline. The latter is close to the highest level since the start of the war and keeps rising.
The Brent M1 contract and the Brent 2027 prices and current price of jet fuel in Europe (ARA). All in USD/b
Our back of the envelope calculation of the global shortage created by the closure of the Strait of Hormuz. Note that 3.5 mb/d of discharge from SPR is also a draw. Note also that ’Forced demand loss’ of 2.5 mb/d is probably temporary and will fall back towards zero as logistics are sorted out leaving ’Price demand loss’ to do the job of balancing the market. Thus a shortfall of at least 9 mb/d created by the closure. More if SPR discharge is included and more if Forced demand loss recedes.
Brent is climbing higher. Front-month is at USD 106.3/bl this morning, close to a weekly high and a USD 9/bl jump from Mondays open. This is the move we flagged as a risk earlier in the week: the market shifting from ”a deal is around the corner” to ”this is going to take longer than we thought”.
Analyst Commodities, SEB
During April, rest-of-year Brent remained remarkably stable around USD 90/bl. A stability which rested on one single assumption: the SoH reopens around 1 May. That assumption is now slowly falling apart.
As we highlighted yesterday: every week of delay beyond 1 May adds (theoretically) ish USD 5/bl to the rest-of-year average, as global inventories draw 100 million barrels per week. i.e., a mid-May reopening implies rest-of-year Brent closer to USD 100/bl, and anything pushing into June or July takes us meaningfully higher.
What’s changed in the last 48 hours:
#1: The US military has formally warned that clearing suspected sea mines from SoH could take up to six months. That is a completely different timescale from what the financial market is pricing. Even a political deal tomorrow does not immediately reopen the strait.
#2: Trump has shifted his tone from urgency to ”strategic patience”. In yesterday’s press conference: ”Don’t rush me… I want a great deal.” The market is reading this as a president no longer feeling pressured by timelines, with the naval blockade running in the background.
#3: So far, the military activity is escalating, not de-escalating. Axios reports Iran is laying more mines in SoH. The US 3rd carrier strike group (USS George H.W. Bush) is arriving with two countermine vessels. Trump yesterday ordered the US Navy to destroy any Iranian boats caught laying mines. While CNN reports that the Pentagon is actively drawing up plans to strike Iranian SoH capabilities and individual Iranian military leaders if the ceasefire collapses. i.e., NOT a attitude consistent with an imminent deal!
Spot crude and product prices eased off the early-April highs on a combination of system rerouting and deal optimism. Both now weakening. Goldman estimates April Gulf output is reduced by 14.5 mbl/d, or 57% of pre-war supply, a number that keeps getting worse the longer this drags on.
Demand-side adaptation is ongoing: S. Korea has cut its Middle East crude dependence from 69% to 56% by pulling more from the Americas and Africa, and Japan is kicking off a second round of SPR releases from 1 May. But SPRs are finite.
Ref. to the negotiations, we should not bet on speed. The current Iranian leadership is dominated by genuine hardliners willing to absorb economic pain and run the clock to extract concessions. That is not a setup for a rapid resolution. US/Israeli media briefings keep framing the delay as ”internal Iranian divisions”, the reality is more complicated and points toward weeks and months, not days.
Our point is that the complexity is large, and higher prices have only just started (given a scenario where the negotiations drag out in time). The market spent April leaning on the USD 90/bl rest-of-year assumption; that case is diminishing by the hour. If ”early May reopening” is replaced by ”June, July or later” over the next week or two, both crude and products have meaningful room to reprice higher from here. There is a high risk being short energy and betting on any immediate political resolution(!).
Vattenfalls och Industrikrafts kärnkraftsbolag Videberg Kraft har valt Rolls-Royce SMR
Selling down on a ”deal”
Sommarväder skapar prisrally på elbörsen
Oil product price pain is set to rise as the Strait of Hormuz stays closed into summer
