There is the physical crude oil market, then the “paper” or electronic futures market. A sometimes huge, and sometimes negligible, disconnect almost always exists between the two. However, the chatter we’ve been hearing since November 2020 has really taken the disconnect to a whole new level and seems out of step with market fundamentals.
From $ 40 a barrel back then for Brent and WTI futures, we are now over $ 60, and even briefly hit $ 70 in March. The reasons attributed to the surge in prices by bullish traders range from expectations of a global economic recovery to the deployment of the COVID-19 vaccine.
These bullish calls reached a crescendo after OPEC + decided on March 4 to keep the level of production cutback at 7 million barrels per day (bpd), along with an additional and surprising voluntary cut of 1 million. of bpj by Saudi Arabia alone. However, Russia and Kazakhstan were allowed to increase production slightly to keep the OPEC + peace.
While many view the Saudi move as optimistic, Wall Street forecasters have piled up. Goldman Sachs
They call it the oil “ supercycle ” – one that will be created by chronic underinvestment in upstream oil and gas projects, short-sighted ESG mania (“ Environmental, social and corporate governance ” or “ sustainability ”) and the domino effect of a supply shortage.
Each bull has its own conviction; but these extremely optimistic short- and medium-term price projections are overstated. In the near term, while some paper traders are bullish, physical traders report that end-user demand for crude has yet to catch up, even in the lucrative market of China. It’s almost as if the paper market is two to three quarters ahead, or about $ 5 a barrel, of the physical market.
At the end of the year, I noted that any rebound in oil prices in 2021 would be short-lived and that an average oil price range of $ 55- $ 60 – using Brent as a benchmark – would be at roughly equal to the midpoint of 2021. I also estimated this to be a largely stable price range for the oil and gas industry. This is something that I support.
The call made by the Saudis on March 4 was described as bullish by many commentators. But in my opinion, their call at the time, and subsequent rumors that Riyadh might extend its voluntary cuts further into the production schedule, are not bullish signals but actually really bearish signals based on scenarios of slowed down demand.
Apart from a handful of countries such as Israel, the United Arab Emirates and the United Kingdom, the global rollout of COVID-19 vaccines is hardly commendable and has been a shambles in the European Union. The scenario is unlikely to improve much later in the year. Civil aviation will not be on the road to recovery by then either and most likely in early 2022.
Economic output in key markets remains sluggish, and the International Energy Agency (IEA) – after factoring in the latest OPEC cuts – does not expect demand for crude to catch up. supply before the third quarter of 2021. This is after demand fell in 2020 by about 9 million barrels per day wiping out nearly a decade of demand gains.
Large importers like India and China are seeking discounts and bagging them, despite official selling price increases to Asian customers by major OPEC producers, including Saudi Arabia. If the bulls are looking for pent-up demand to come back and support crude prices, it is more likely to occur in early to mid-2022 than in the rest of the current year to speculatively stack crude prices. over $ 80.
Looking beyond the short term and looking at the medium term, the logic of $ 100 a barrel still does not add up. The underinvestment in upstream projects since 2014, aggravated by the current slump and the openness of Western oil majors towards a smaller carbon footprint are well documented. So are the switch from gasoline and diesel to electric vehicles by 2030 by the main OECD markets and the decisions of several lenders to no longer finance the extraction of fossil fuels.
Yet the lack of viable substitutes for petrochemicals, refining and aviation, and a slower shift from human mobility in non-OECD markets to electricity would keep demand fair in the medium term, as well. as the upstream end of the activity. In fact, if pent-up post-COVID demand is reflected in the data as expected in 2022, by 2023 the supply of OPEC and non-OPEC is set to increase.
US shale production has been hurt by the recession but is not yet dead and will rebound in an improved pricing environment given the growing list of Asian buyers of US crude. The act of balancing supply and demand heading into 2023 would roughly keep oil prices well below $ 100, given the expected surge in non-OPEC production. In addition, a firmer pricing climate will test OPEC + ‘s resolve and alone provide a price cooling mechanism.