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Analys

Solid demand growth and strained supply to push Brent above USD 100/b

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SEB - Prognoser på råvaror - Commodity

Brent crude had a strong end of the year as it traded at the highest level since 1 December. It is a slow start to the new year due to bank holidays and Dated Brent trades close to USD 85/b. It averaged USD 99.9/b in 2022. We expect it to average more than USD 100/b on average for the coming year amid strained supply and rebounding demand. Chinese oil demand is set to recover strongly along with re-openings while non-OECD will continue to move higher. At the moment oil looks absurdly cheap as it is cheaper than natural gas in both EU and Japan and also cheaper than coal in Australia.

Some price strength at the end of the year. The Dated Brent crude oil price index gained 2.3% on Friday with a close at USD 84.97/b. It was the highest close since 1 December. This morning it is trading slightly lower at USD 84.8/b but the market is basically void of action due to bank holidays.

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

Gloom and doom but IEA, OPEC and US EIA project global crude oil demand to rise between 1 m b/d and 2.2 m b/d YoY in 2023. They also expect call-on-OPEC to rise between 0.3 m b/d and 1.0 m b/d. The US EIA projects demand to increase 1 m b/d in 2023 on the back of a growth of 1.3 m b/d in non-OECD where demand in India rises by 0.2 m b/d and China by 0.6 m b/d. In China this is of course to a large degree due to re-opening after Covid-19 lock-downs. But it is still a good reminder of the low base of oil demand in non-OECD versus OECD. India last year consumed 5 m b/d which only amounts to 1.3 b/capita/year versus a world average of 4.5  b/capita/year and European demand of 10 b/capita/year. Even China is still below the world average as its demand in 2022 stood at 15.2 m b/d or 4.0 b/capita/yr. Non-OECD oil demand thus still has a long way to go in terms of oil demand and that is probably one of the things we’ll be reminded of in 2023 as Covid-19 lock-downs disappear entirely.

Solid demand growth in the face of strained supply. Important to remember is that the world has lost a huge amount of fossil supply from Russia due to the war in Ukraine. First in terms of natural gas where supply to the EU and thus to the world has declined by some 2.5 m boe/d versus pre-war levels. Secondly in terms of crude and products. The latter is of course a constant guessing game in terms of how much Russian crude and product exports has declined. The US EIA however projects that crude oil production in the Former Soviet Union will be down 2 m b/d in 2023 versus pre-Covid levels and down 1.3 m b/d YoY from 2022 to 2023. We are thus talking up to 4.5 m boe/d of lost supply from Russia/FSU. That is a huge loss. It is the reason why coal prices are still trading at USD 200 – 400/ton versus normal USD 85/ton as coal is an alternative to very expensive natural gas.

Overall for 2023 we are looking at a market where we’ll have huge losses in supply of fossil energy supply from Russia while demand for oil is set to rebound solidly (+1.0 – 2.2 m b/d) along with steady demand growth in non-OECD plus a jump in demand from China due to Covid-19 reopening. Need for oil from OPEC is set to rise by up to 1.0 m b/d YoY while the group’s spare capacity is close to exhausted.

We expect Brent crude to average more than USD 100/b in 2023. Despite all the macro economic gloom and doom due to inflation and rising interest rates we cannot help having a positive view for crude oil prices for the year to come due to the above reasons. The Dated Brent crude oil price index averaged USD 99.9/b in 2022. We think Brent crude will average more than USD 100/b in 2023. Oil is today absurdly cheap at USD 85/b. It is cheaper than both coal in Australia and natural gas both in Japan and the EU. This is something you hardly ever see. The energy market will work hard to consume more what is cheap (oil) and less of what is expensive (nat gas and coal).

Latest forecasts by IEA, OPEC and US EIA for oil demand growth and call-on-OPEC YoY for 2023. Solid demand growth and rising need for oil from OPEC. 

Latest forecasts by IEA, OPEC and US EIA for oil demand growth and call-on-OPEC YoY for 2023.
Source: IEA, EIA, OPEC, SEB graph

Oil demand projections from the main agencies and estimated call-on-OPEC. More demand and higher need for oil from OPEC

Oil demand projections
Source: IEA, EIA, OPEC, SEB table

EIA STEO projected change in oil demand for different countries and regions YoY to 2023

EIA STEO projected change in oil demand for different countries and regions YoY to 2023
Source: US EIA, SEB graph

US EIA Dec STEO forecast for FSU oil production. Solid decline projected for 2023.

US EIA Dec STEO forecast for FSU oil production. Solid decline projected for 2023.
Source: US EIA data and projection. SEB graph

US commercial crude and product stocks still below normal

US commercial crude and product stocks still below normal
Source: US EIA, SEB graph

Total US crude and product stocks including SPR. Declining, declining, declining.

Total US crude and product stocks including SPR. Declining, declining, declining.
Source: US EIA, SEB graph

US crude and product inventories both excluding and including Strategic Petroleum Reserves

US crude and product inventories both excluding and including Strategic Petroleum Reserves

US oil sales from US SPR is now coming to an end. Will make the market feel much tighter as it really is.

US oil sales from US SPR is now coming to an end. Will make the market feel much tighter as it really is.
Source: US EIA, SEB graph

Brent crude oil is absurdly cheap as it today trades below both Australian coal and natural gas in both Japan and the EU. Coal and natural gas prices should trade lower while oil should trade higher.

Source: Blbrg data, SEB graph

EU diesel prices versus natural gas prices. Could start to move towards a more natural price-balance in terms of substitution.

EU diesel prices versus natural gas prices. Could start to move towards a more natural price-balance in terms of substitution.
Source: Blbrg data, SEB graph and calculations

Analys

Brent gains on positive China data and new attacks on Russian oil processing

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Positive China data and further attacks on Russian oil processing facilities lifts Brent yet higher. Brent crude gained 4.1% last week with a close on Friday 15 March at USD 85.3/b. Continued declines in US inventories, a bullish oil market outlook from the IEA and damages on Russia’s Rosneft Ryazan oil processing plant by Ukrainian drones helped Brent crude to break above the USD 85/b level. This morning Brent is adding another 0.4% to USD 85.7/b driven by a range of additional attacks on Russian refineries over the weekend and positive Chinese macro data also showing Chinese apparent oil demand  up 6.1% YoY for Jan+Feb.

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

Brent crude is getting a steady tailwind from declining US oil inventories. Steady and continued declines in US inventories since the start of the year has been nudging the oil price steadily higher but there has clearly been some resistance around the USD 85/bl level. US inventories continued that decline in data also last week with commercial crude and product stocks down 4.7 m b. Total US stocks including SPR declined 4.1 m b to 1580 m b which is now only 2 m b above the low point on 30 December 2022 at 1578 m b. These persistent declines in US oil inventories is a clear reflection of the global market in deficit where demand is sufficiently strong, cuts by OPEC+ are sufficiently deep while US shale oil production is close to muted with hardly any growth projected from Q4-23 to Q4-24.

Bullish report from IEA last week indicates that further inventory declines is to be expected. The monthly report from IEA last week gave an additional boost to this picture as it lifted projected oil demand for 2024 by 0.2 m b/d, reduced non-OPEC production by 0.2 m b/d and thus increased its estimated call-on-OPEC by 0.4 m b/d for 2024. The world will need steadily more oil from OPEC every quarter to Q3-24 and by Q4-24 the world will need 0.8 m b/d more from the group than it did in Q4-23. That is great news for OPEC+. There is no way that they’ll move away from current strategy of ”Price over volume” with this backdrop. The report from IEA last week is indicating that the gradual declines in US inventories we have seen so far this year will likely continue. And such a trend will give continued support for oil prices in the coming quarters. Oil price projections are lifted in response to this and last out is Morgan Stanley which raises its Q3-24 Brent forecast by US 10/b to USD 90/b.

SEB’s Brent crude forecast for 2024 is USD 85/b (average year) which implies that we’ll likely see both USD 70/b as well as USD 100/b some times during the year.

Attacks on Russian oil processing will mostly impact refining margins and crude grade premiums as crude supply is unlikely to be disrupted. The Ukrainian drone attacks on Russian oil infrastructure has surprised the market as many of them are deep within Russia. Facilities in Russia’s Samara region which is more than 1,000 km away from the Ukrainian border were attacked on Saturday. Oil processing plants and oil refineries are highly complex structures. If damaged by drones they can potentially be out of operation for extended periods. Plain oil transportation systems are much simpler and easier and faster to repair. The essence here is that we’ll likely not lose any oil supply while we might lose oil refining capacity due to these attacks. Most of the impact from these attacks should thus be on refining margins and not so much on crude oil prices. But when diesel cracks, gasoil cracks and gasoline cracks goes up then typically also light sweet crude prices goes up. As such there is a spillover effect from damages to Russian oil refineries to Brent crude oil prices even if we don’t lose a single drop of Russian crude oil production and supply.

Total US crude and product stocks incl. SPR has been ticking lower and lower so far this year and are now only 2 m b/d above the low-point in late December 2022. This is a solid indication that the global oil market is running a deficit.

Total US crude and product stocks incl. SPR
Source: SEB graph and calculations, Blbrg data

Total commercial crude and product stocks (excl. SPR) has been ticking lower and lower so far this year. This has helped to nudge oil prices steadily higher. 

Total commercial crude and product stocks (excl. SPR)
Source: SEB graph and calculations, Blbrg data

Brent crude looks very fairly priced at around USD 85/b versus current US commercial oil inventories

Brent crude looks very fairly priced at around USD 85/b versus current US commercial oil inventories
Source: SEB graph and calculations, Blbrg data

Call-on-OPEC by IEA: World will need more and more oil from OPEC through the year. In Q4-24 the world will need 0.8 m b/d more oil from OPEC in Q4-24 than in Q4-23.  

World will need more and more oil from OPEC through the year.
Source: SEB graph, IEA data

ARA refining margins have moved up so far this year => Refineries want to process more crude oil and thus they want to buy more crude oil.

ARA refining margins
Source: SEB calculations and graph, Blbrg data
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Analys

When affordable gas and expensive carbon puts coal in the corner

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Coal and nat gas prices are increasingly quite normal versus real average prices from 2010 to 2019 during which TTF nat gas averaged EUR 27/MWh and ARA coal prices averaged USD 108/ton in real-terms. In the current environment of ”normal” coal and nat gas prices we now see a darkening picture for coal fired power generation where coal is becoming less and less competitive over the coming 2-3 years with cost of coal fired generation is trading more and more out-of-the money versus both forward power prices and the cost of nat gas + CO2. Coal fired power generation will however still be needed many places where there is no local substitution and limited grid access to other locations with other types of power supply. These coal fired power-hubs will then become high-power-cost-hubs. And that may become a challenge for the local power consumers in these locations.

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

When affordable gas and expensive carbon puts coal in the corner. The power sector accounts for some 50% of emissions in the EU ETS system in a mix of coal and nat gas burn for power. The sector is also highly dynamic, adaptive and actively trading. This sector has been and still is the primary battleground in the EU ETS where a fight between high CO2 intensity coal versus lower CO2 intensity nat gas is playing out.

Coal fired power is dominant over nat gas power when the carbon market is loose and the EUA price is low. The years 2012, 2013, 2014, 2015 were typical example-years of this. Coal fired power was then in-the-money for around 7000 hours (one year = 8760 hours) in Germany. Nat gas fired power was however only in the money for about 2500 hours per year and was predominantly functioning as peak-load supply.

Then the carbon market was tightened by politicians with ”back-loading” and the MSR mechanism which drove the EUA price up to EUR 20/ton in 2019 and to EUR 60/ton in 2021. Nat gas fired power and coal fired power were then both in-the-money for almost 5000 hours per year from 2016 to 2023. The EUA price was in the middle-ground in the fight between the two. In 2023 however, nat gas was in-the-money for 4000 hours while coal was only in-the-money for 3000 hours. For coal that is a dramatic change from the 2012-2015 period when it was in the money for 7000 hours per year.

And it is getting worse and worse for coal fired generation when we look forward. That is of course the political/environmental plan as well. It is still painful of course for coal power.

On a forward basis the cost of Coal+EUA is increasingly way, way above the forward German power prices. Coal is basically out-of-the money for more and more hours every year going forward. It may be temporary, but it fits the overall political/environmental plan and also the increasing penetration of renewable energy which will push aside more and more fossil power as we move forward. 

But coal power cannot easily and quickly be shut down all over the place in preference to cheaper nat gas based power. Coal fired power will be the primary source of power in many places with no local alternative and limited grid capacity to other sources of power elsewhere.

The consequence is that those places where coal fired power generation cannot be easily substituted and closed down will be ”high power price hubs”. If we imagine physical power prices as a topological map, geographically across Germany then the locations where coal fired power is needed will rise up like power price hill-tops amid a sea of lower power prices set by cheaper nat gas + CO2 or power prices depressed by high penetration of renewable energy.

Coal fired power generation used to be a cheap and safe power bet. Those forced to rely on coal fired power will however in the coming years face higher and higher, local power costs both in absolute terms and in relative terms to other non-coal-based power locations.

Coal fired power in Germany is increasingly very expensive both versus the cost of nat gas + CO2 and versus forward German power prices. Auch, it will hurt more and more for coal fired power producers and more and more for consumers needing to buy it.

Coal fired power in Germany is increasingly very expensive
Source: SEB calculations and graph, Blbrg data

And if we graph in the most efficient nat gas power plants, CCGTs, then nat gas + CO2 is today mostly at the money for the nearest three years while coal + CO2 is way above both forward power prices and forward nat gas + CO2 costs. 

EUR/MWh
Source: SEB calculations and graph, Blbrg data

Number of hours in the year (normal year = 8760 hrs) when the cost of coal + CO2 and nat gas + CO2 in the German spot power market (hour by hour) historically has been in the money. Coal power used to run 7000 hours per year in 2012-2016, Baseload. Coal in Germany was only in-th-money for 3000 hours in 2023. That is versus the average, hourly system prices in Germany. But local, physical prices will likely have been higher where coal is concentrated and where there is no local substitution for coal in the short to medium term. Coal power will run more hours in those areas and local, physical prices need to be higher there to support the higher cost of coal + CO2.

Number of hours in the year
Source: SEB calculations and graph, Blbrg data
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Analys

War-premium back on the agenda?

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During yesterday’s trading session, Brent Crude made significant gains, marking the largest increase in global oil prices in approximately five weeks. The front-month contract is presently trading at USD 84.3 per barrel, reflecting a robust increase of USD 2.55 per barrel (above 3%) compared to Monday morning’s opening price.

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

Furthermore, US crude inventories, excluding those held in the Strategic Petroleum Reserve (SPR), experienced a notable decline for the first time in seven weeks. This decline suggests a heightened global demand for crude oil, which has played a pivotal role in driving up prices (further details below).

Additionally, of considerable significance is Ukraine’s unexpected success in executing precise drone strikes targeting key Russian oil infrastructure. Yesterday, Ukrainian drone strikes triggered a fire at Rosneft’s Ryazan plant, which has a daily production capacity of 340,000 barrels near Moscow. This facility is a significant provider of motor fuels for the capital region and stands as one of Russia’s largest crude-processing facilities. Notably, this incident marks the third Ukrainian drone attack on Russian refineries this week, following similar incidents at the Novoshakhtinsk and Norsi refineries.

Ukrainian strikes in Russian territories ”appear to aim at disrupting, if not influencing, the Russian elections,” Putin stated in an interview with the RIA Novosti news service released Wednesday. He added, ”Another objective seems to be securing leverage for potential negotiation purposes.”

i.e., we believe the statements suggest that Ukrainian strikes in Russian regions are perceived by Putin as strategic moves with dual purposes. Firstly, they are seen as attempts to disrupt or influence the upcoming elections in Russia, potentially destabilizing the political landscape or casting doubt on the legitimacy of the electoral process. Secondly, they are interpreted as efforts to gain leverage in possible negotiation scenarios, implying that Ukraine seeks to strengthen its bargaining position by demonstrating its capability to inflict economic and strategic damage on Russia.

From a market perspective, it’s crucial to highlight the escalating conflict between Ukraine and Russia, which poses a significant threat to global energy markets. Russia’s role as a major oil and gas supplier is paramount, and any disruptions in its energy infrastructure could lead to widespread supply shortages and price volatility worldwide. The recent drone strikes are a clear reminder that geopolitical tensions continue to impact global oil markets. The fading ”war-premium” should now be factored in more significantly, indicating a need to brace for increased volatility ahead.


An overall significant drawdown of US inventories. In the U.S., commercial crude oil inventories, excluding those in the Strategic Petroleum Reserve, dropped by 1.5 million barrels from the prior week to 447.0 million barrels, about 3% below the five-year average. Total motor gasoline inventories fell by 5.7 million barrels, also about 3% below the five-year average. Distillate fuel inventories rose by 0.9 million barrels, approximately 7% below the five-year average. Propane/propylene inventories increased by 0.7 million barrels, marking an 8% rise compared to the five-year average.

Overall commercial petroleum inventories decreased by 4.7 million barrels. Over the past four weeks, total products supplied averaged 19.9 million barrels per day, up by 1.0% from the same period last year. Motor gasoline product supplied averaged 8.7 million barrels per day, down by 1.3% from the same period last year. Distillate fuel product supplied averaged 3.7 million barrels per day over the past four weeks, up by 0.5% from the same period last year. Jet fuel product supplied increased by 2.0% compared to the same four-week period last year.

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