Crude oil prices are pulling back this morning on China concerns. But Saudi Arabia is probably very happy with the overall situation. It has showed the oil market yet again who’s the boss and the world will also need more of its oil in the coming months. The global market is set to run a deficit of 1.7 m b/d in Q4-23 according to the latest IEA report if Russia and Saudi Arabia sticks to their current production. After now having put the market strait there is no reason for Saudi Arabia to let such a deep deficit and inventory draw actually play out. It would lead to much higher prices but Saudi would also receive a lot of political pain from the US, China, India, Europe. Why ruin the party with oil rallying above USD 100/b and drive up an ugly political debacle when oil at USD 85/b is such a beautiful place. Tapering of Saudi Arabia’s cuts in Q4-23 would be the natural thing to expect. But all through September at least there should be a very sharp and tight market.

Through most of the first half of this year all up until late June there was deep disagreement with respect to global oil demand. In its June oil market report (STEO), the US EIA projected an oil demand in Q4-23 of 101.8 m b/d while the IEA in its OMR report the same month projected a Q4-23 demand of 103.5 m b/d. Such magnitudes of diverging views with respect to global oil demand is very rare. Markets didn’t really know what to believe with deep fear of deteriorating economic outlook on top due to sky rocketing interest rates around the world and a sluggish Chinese economy. The actual level of global oil demand is usually something we only really know in hindsight. With lots of facts in hand the IEA now estimates that global demand was 103 m b/d in June and expects it to be 103.1 m b/d in Q4-23.

The world did indeed get a strong rebound in global oil demand as the world increasingly and fully emerged from Covid-19 restrictions. Increased flying, driving and strong demand for petrochemicals. But it took a little longer to materialize than expected and it was shrouded in fears over the direction of the global economy. Global demand at 103 m b/d is not about a vigorously growing global economy but mostly about normalization post Covid-19. The IEA now estimates that global demand this year will average 102.2 m b/d versus 99.9 m b/d in 2022 giving a rebound of 2.2 m b/d YoY. But if it hadn’t been for Covid-19 then global oil demand would probably have been averaging close to 106 m b/d this year and 106.5 m b/d in H2-23 if we assume the normal 1.3% oil demand growth since 2019 had taken place. Much of this normal oil demand growth is due to population growth which is relentlessly rising higher. There is thus still a potentially huge, pent up demand for oil which may have built up during the Covid-19 years. Whether that potential pent up demand will actually emerge or not remains to be seen. But for now we are at a solid 103 m b/d demand. This is what the market can see and believe in. But significant pent up demand may be lurking behind the curtains.

Saudi Arabia was probably very frustrated with financial oil markets as they sold oil heavily in H1-23 and drove prices lower even as Saudi Arabia could see in its physical oil books that demand was robust. Saudi Arabia made deep cuts to production from 10.5 m b/d in April and all the way down to almost 9.0 m b/d in July with same level also in August and September. This isn’t Saudi Arabia’s first rodeo and it has really showed the market yet again who’s the boss.

Global oil demand normally rises by 1.3 m b/d from H1 to H2. Production from OPEC+ has however declined by 1.6 m b/d from April to August. And market is now very tight. If Saudi Arabia and Russia sticks to their current production levels throughout H2-23 then the IEA projects a draw in global oil inventories of 1.7 m b/d. That is a big, big draw which would drive oil prices yet higher. The price of sour crude (Dubai) which normally trades at at discount to sweet crudes is now instead trading at a premium. That is how tight the sour crude market has gotten.

But Saudi Arabia now has plenty of spare capacity at hand and it can easily lift production by 1.5 m b/d again back up to 10.5 m b/d. While they may chose to keep production at around 9.0 m b/d for a little while longer they have no good reason to drive the oil price up to USD 100-110/b. That will only give them large political problems with their main consumers. For sure neither the US nor China or India will be very happy.

Saudi Arabia should be fully content for the moment. It has shown the market yet again who’s the boss. It has driven the oil price back up to a very satisfying level of USD 85/b (ish). The world needs more of its oil and Saudi has spare capacity to provide it. Could it be better? Hardly.

US oil inventories with and without SPR. We still haven’t seen a decline in US crude and product stocks excluding SPR. But that will be the proof of the pudding. A running global deficit of 1.7 m b/d will eventually show up in declining US crude and product stocks.

Main oil product stocks in the US are lower this year than last year. At least a little. Refining margins are very strong as a result of reviving global demand for gasoline and jet fuel. When refining margins are strong then refineries make a lot of money and then they buy a lot of crude oil to make more.

Refining margins ticked lower following crazy levels in 2022 but have now shot back up again as demand for gasoline and jet fuel has revived post Covid-19.

Significant cuts from Saudi Arabia and some cuts by Russia has made total OPEC+ production fall like a rock (blue line). But that also means there is more spare capacity at hand.

The sharp decline in production from OPEC+ has led to a rebound in the time spreads for both Brent crude and Dubai crude. The tightening by OPEC+ is so large that Dubai sour crude now trades at a premium to Brent crude which is highly unusual (lilac graph).