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We can confidently say yet again that Saudi Arabia is the boss

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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.

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

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.

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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.

US oil inventories with and without SPR
Source: SEB graph, Blbrg data

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.

Graph of main oil product stocks in the US
Source: SEB graph, Blbrg data

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.

Refining margins
Source: SEB graph, Blbrg data

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.

Oil production by different combinations of groups
Source: SEB graph, Rystad data

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).

Sharp decline in production from OPEC+
Source: SEB graph, Blbrg data

Analys

Crude oil comment: Lack of clear direction

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This week, Brent crude prices have declined by USD 2.3 per barrel (2.8%) since Monday’s opening, driven by fundamental market factors. The current price is near its weekly low at USD 81.8 per barrel, down from Monday’s high of USD 84.5 per barrel.

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

The price has fallen by nearly USD 1 per barrel since yesterday afternoon. This week’s downward trend can be attributed to three main factors:

1. Upcoming OPEC+ Meeting:

OPEC+ is scheduled to meet on June 1st for the Joint Ministerial Monitoring Committee (JMMC). Initially planned as a physical meeting in Vienna, it will now be fully digital, suggesting no major discussions or changes. We anticipate that the meeting will result in the extension of current production cuts into Q3 2024. OPEC+ aims to signal a tight yet well-supplied market, maintaining the status quo and minimizing significant market reactions.

2. U.S. Inventory Report:

Wednesday’s U.S. inventory report had a bearish impact on the market, showing a build in commercial crude inventories (excl. SPR) by 1.8 million barrels, contrary to the expected 1.9-million-barrel draw. This was slightly more bullish than the American Petroleum Institute (API) forecast of a 2.5-million-barrel increase released on Tuesday.

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Commercial crude inventories now stand at 458.8 million barrels, about 3% below the five-year average for this time of year. This build is counter-seasonal, as we usually see a draw at this time of the year. Gasoline inventories decreased by 0.9 million barrels, less than the anticipated draw of 1.2 million barrels. Distillate (diesel) inventories increased by 0.4 million barrels, against a consensus expectation of a 0.3-million-barrel draw, further defying typical seasonal trends and adding a bearish tone to the market, even though they remain about 7% below the five-year average. Overall, total inventories (crude + gasoline + distillate) rose by 1.3 million barrels.

Additionally, U.S. crude oil refinery inputs averaged 16.5 million barrels per day last week, an increase of 227 thousand barrels per day from the previous week. Refineries operated at 91.7% of their operable capacity, the highest since mid-January, as they ramp up following maintenance. Gasoline production averaged 10 million barrels per day, while distillate fuel production averaged 5.1 million barrels per day. A marginal improvement in refinery margins indicates healthier demand prospects leading into the driving season.

3. FOMC Minutes and Economic Concerns:

The continued decline in oil prices can also be attributed to bearish pressure from hawkish Federal Open Market Committee (FOMC) minutes, which raised concerns about persistent inflation. This could result in prolonged higher U.S. interest rates, potentially limiting future oil demand growth.

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In summary, the combined effect of the upcoming OPEC+ meeting, the U.S. inventory report, and economic concerns highlighted in the FOMC minutes has contributed to the weakening of Brent crude prices this week.

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Analys

German solar power prices are collapsing as market hits solar saturation

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German solar power producers got a price haircut of 87% over the past 10 days. German solar power producers have over the past 10 days received a volume weighted power price of only EUR 9.1/MWh. The average power price during non-solar-power-hours was in comparison EUR 70.6/MWh. Solar power producers thus got an 87% cut in the power price they get when they produce vs. the power price during non-solar-power-hours. This is what happens to power prices when the volume of unregulated power becomes equally big or bigger than demand: Prices collapse when unregulated power produces the most.

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

Massive growth in solar power installations in Germany in 2023 is leading to destruction of solar hour prices and solar profitability. Germany installed a record 14,280 MW of solar power capacity According to ’PV Magazine International’. That is close to twice as much as in 2022. Total installed solar capacity reached 81.7 GW at the end of 2023 according to ’Renewables Now’. Average German demand load was in comparison 52.2 GW. So total solar capacity reached almost 30 GW above average demand. Solar power produces the most during summer when demand is lower. The overshoot is thus much larger than the 30 GW mentioned when it matters.

The collapse in solar-hour-power-prices implies a collapse in solar power producer earnings unless the earnings of the installations are secured with subsidies or by PPAs. It also means that there is a sharp reduction in the earnings potential for new solar power projects. The exponential growth in new installations of solar capacity we have seen to date is likely to come to an abrupt halt. There is however most likely still a large range of solar power projects under construction in Germany which will be finalized before growth in new capacity comes to a halt. The problem of solar power production curbs (you are not allowed to produce at all) and solar power price destruction is likely to escalate yet higher before new growth in supply comes to a halt. 

Focus will now shift from solar production capacity growth to grid improvements, batteries and adaptive demand. All consumers are of course happy for cheap power as long as they are able to consume it when it is cheap. At the moment they can’t. But the incentive to be inventive is now super high. The focus will now likely shift from solar power production growth to grids, batteries, adaptive demand and all possible ways to utilize ”free power”. This will over time exhaust the availability of ”free power” and drive solar-hour-power-prices back up. This again will then eventually open for renewed growth in solar power capacity growth.

It is probably much worse down in the grid. What is worth noting is that these numbers are for all of Germany average. Solar power congestion is much worse in the local grids all around Germany along with local grid capacity constraints ect.

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The problem of solar power is high concentration of production: 80% of German solar production was produced during 22.3% of the hours in the year in 2023. What is also worth mentioning is that solar power production is extremely concentrated in relatively few hours per year. It produces in the middle of the day and during summer. In 2023 German solar power produced 80% of its production in only 22.3% of the hours of the year. This basically implies that once solar power production reaches 22.3% of total power supply (without batteries), then solar-hour-power-prices will likely collapse. Solar power production reached 55 TWh in 2023. That’s a lot but it is still only 12% of total demand of 458 TWh in 2023. What it means is that the acute problem of solar-hour-power-price-destruction sets in much before the ”theoretical 22.3%” mentioned above.

On the 21 Feb 2024 we wrote the following note on this issue: ”The self-destructive force of unregulated solar power” where we highlighted these issues and warned that this will likely be a process of ”First gradually. Then suddenly”.

German solar power capacity makes a big leap upwards in 2023 as the energy crisis hurt everybody. Demand went down. Now there is a large overcapacity in installed solar effect vs. demand load.

German solar power capacity makes a big leap upwards in 2023 as the energy crisis hurt everybody. Demand went down. Now there is a large overcapacity in installed solar effect vs. demand load.
Source: SEB calculations and graph, PV Magazine, Wikipedia, Blberg data on German power demand

German solar power producers got an 87% price haircut on average during last 10 days vs. those who produced during non-solar-power hours.

German solar power producers got an 87% price haircut on average during last 10 days vs. those who produced during non-solar-power hours.
Source: SEB calculations and graph, data by Blbrg

Volume weighted solar power prices vs. non-solar-hours. Bigger and bigger discount.

Volume weighted solar power prices vs. non-solar-hours. Bigger and bigger discount.
Source:  SEB calculations and graph, data by Blbrg

Volume weighted solar power prices vs. non-solar-hours. Bigger and bigger discount.

Volume weighted solar power prices vs. non-solar-hours. Bigger and bigger discount.
Source: SEB calculations and graph, data by Blbrg

Solar power production and German power prices over the past 10 days.

Solar power production and German power prices over the past 10 days.
Source: SEB calculations and graph, data by Blbrg

Solar power production and German power prices on 27 April 2024.

Solar power production and German power prices on 27 April 2024.
Source:  SEB calculations and graph, data by Blbrg
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Analys

Firm at $85

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SEB - analysbrev på råvaror

This week, Brent Crude prices have strengthened by USD 1.2 per barrel since Monday’s opening. While macroeconomic concerns persist, market reactions have been subdued, with price fluctuations primarily driven by fundamental factors. Currently, the oil price stands at its weekly high of USD 84.4 per barrel, with Wednesday’s low recorded at USD 81.7 per barrel, indicating relatively normal price movements throughout the week.

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

The upward trajectory since Wednesday afternoon can be attributed to two main factors:

Firstly, Wednesday’s US inventory report, though mixed, conveyed a bullish sentiment to the market due to an overall decline in commercial inventories. The report from the US Department of Energy (DOE) revealed a draw in US crude inventories of 1.4 million barrels last week, surpassing consensus estimates of a 2.0-million-barrel draw –  the American Petroleum Institute’s (API) forecast of a 0.5-million-barrel build on Tuesday.

Additionally, a marginal improvement in refinery margins hints at healthier demand prospects leading up to the driving season. While commercial crude oil inventories (excluding Strategic Petroleum Reserve) decreased, standing approximately 3% below the five-year average for this period, total gasoline inventories saw a notable increase of 0.9 million barrels compared to the consensus forecast of a decrease of 1.1 million barrels. Distillate fuel inventories experienced a more moderate increase in line with expectations, rising by 0.6 million barrels but remaining approximately 7% below the five-year average. Overall, total inventories (crude + gasoline + distillate) showed a marginal increase of 0.1 million barrels, coupled with a 1% improvement in refinery utilization to 88.5% last week (see pages 11 and 18 attached).

The substantial draw in commercial crude inventories, particularly compared to the typical seasonal build, has emerged as a key price driver (see page 12 attached).

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Secondly, the third consecutive day of oil price gains can be attributed to renewed optimism regarding US rate cuts, supported by positive US jobs data suggesting potential Federal Reserve rate cuts this year. This optimism has boosted risk assets and weakened the dollar, rendering commodities more appealing to buyers.

In a broader context, crude oil prices have been moderating since early last month amidst easing tensions in the Middle East. Attention is also focused on OPEC+, with Russia, a key member, exceeding production targets ahead of the cartel’s upcoming meeting. Expectations are widespread for an extension of output cuts during the next meeting.

Conversely, providing support to global crude prices is the Biden administration’s intention to increase the price ceiling for refilling US strategic petroleum reserves to as much as USD 79.99 per barrel.

With geopolitical tensions relatively subdued, but lingering, the market remains vigilant in analyzing data and fundamentals. Our outlook for oil prices at USD 85 per barrel for 2024 remains firm and attainable for the foreseeable future.

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