Front-month WTI has moved in a range of just over $7/bbl in the last three weeks. This difference was even narrower in Brent. Compared to the brutal environment in the previous three months the two main crude oil futures contracts have moved sideways. Either a temporary supply-demand balance has been found and this is reflected in the price action or there is a great amount of uncertainty lingering over the market, which makes both bulls and bears cautious.
It is more likely the latter. Attempts to push prices higher are capped by growing concerns about the second cycle of the coronavirus or the inability to contain the current one. The director general of WHO warned that the COVID-19 pandemic is not even close to being over. Global cases are over 10 million and the death toll has surpassed 500,000. In the US cases are rising in 30 states, Iran reported its highest number of single-day death and China has just locked down 400,000 people near Beijing as new virus clusters are emerging.
Sellers are also quick to shy away when Brent dips below $40/bbl. Demand is expected to pick up in the second half of the year and there is a general consensus that the OPEC+ group will live up to expectations and will achieve high compliance in June and July. This optimism still persists even though consultancy Petro-Logistics estimates that OPEC countries with output constraints are 1.55 mbpd away from 100% adherence. Talks on ending Libyan oil exports blockade has also gone unnoticed, so far.
So, who will come out on top? An eventual break over the recent highs seems more plausible in the foreseeable future than the opposite for three reasons. Firstly, volatility is falling, and it is usually coupled with stronger prices. Secondly, the mindset of an investor contrast strikingly with that of a health official. The latter sends out warning signals on a frequent basis about the difficulties of fighting the pandemic. The former will only listen when lockdown measures introduced in March are brought back. Until then the massive fiscal and monetary stimulus programmes will remain the sine qua non of an economic rebound. Thirdly, restrictive measures experienced two-three months ago will not be launched again. Policy makers all over the world are keen to avoid another economic nightmare therefore possible quarantines will be localized and bespoke. Hence oil followed stock markets higher yesterday. Positive data from China (rising industrial profit), in the eurozone (recovering economic sentiment) and in the US (pending home sales jumped at a record pace last month) pushed the DJIA index 2.32% higher. Consequently, both WTI and Brent bounced off the morning’s lows impressively and finished the day $1.21/bbl and 92 cents/bbl (September Brent) in the black.
Sluggish demand growth, adequate supply
The Covid-19 pandemic has forced forecasters to make unparalleled downward revisions to the demand as well as the supply side of the oil equation. Latest estimates show an average demand destruction of around 8.5 mbpd this year. Absolute demand for 2020 has been revised down by more than 7 mbpd since January. Non-OPEC supply is estimated to have fallen by almost 3 mbpd year-on-year whilst this year’s projection has been cut by 6.8 mbpd in the past six months. Next year is expected to bring some relief. Global consumption is set to grow 7.2 mbpd (EIA) or 5.7 mbpd (IEA). Non-OPEC supply is to recover by 830,000 bpd.
The impact of the virus is severe. Neither oil demand nor supply will reach the 2019 level by next year. What to expect beyond that? The IEA publishes its annual Oil Market Report in which it looks five year ahead. The latest report released two weeks ago, the same day as the monthly supply-demand paper, warns of the uncertainty created by the outbreak of the coronavirus. The situation, the agency stresses, remains very fluid, and assessing the full impact of the virus is difficult.
The IEA sees global oil consumption to rise by 5.7 mbpd between 2019 and 2025. The annual average is 1 mbpd or 0.9%. This compares with an annual growth rate of 1.19 mpd or 1.27% in last year’s report that covers the period of 2018-2024. Clearly, the current health crisis is having a long-term impact on global oil demand. It will probably accelerate the transition from fossil fuel to renewables, too. With the exception of the Asia Pacific region consumption will stagnate over the next five years. In North America, for example, the annual growth that was estimated to be 70,000 bpd is now flat. Consumption in the Middle East will stagnate over the next five years compared with an expansion of 140,000 bpd seen last year. In the Asia Pacific region annual demand increase has been cut from 730,000 bpd to 700,000 bpd nevertheless the region remains the engine room of global oil demand growth. The rise Chinese oil demand that is projected to fall 270,000 bpd this year will rebound between 2021 and 2025. However, the average annual expansion of 300,000 bpd is well below the 570,000 bpd average of the past ten years.
Thirst for transportation fuel will stagnate. Due to improved car efficiency gasoline demand will increase by a meagre 90,000 bpd. For the same reason, the growth in distillate consumption will be limited to an average 110,000 bpd until 2025. Naphtha, LPG, and ethane demand is expected to grow by a healthy 500,000 bpd due to the increase in plastics consumption aided by low NGL prices.
Production capacity will increase 5.9 mbpd by 2025, slightly higher than demand growth. It shows the importance of a prolonged co-operation between the OPEC+ countries in the foreseeable future. Non-OPEC production is to expand from 59.8 mbpd last year to 63.6 mbpd in 2025 although this upward slope will flatten after 2022. Total non-OPEC supply (including processing gains and biofuel) will grow by an average 700,000 bpd per annum or by 4.5 mbpd over the period. Combined North and Central and South American production growth will be 4.3 mbpd (2.8 mbpd in the former and 1.5 mbpd in the latter).
Demand for OPEC oil is set to rise to 30.6 mbpd by 2025. The organization’s spare capacity, however, will remain above 3 mbpd, the IEA points out. As non-OPEC production, especially output in North America, is likely to plateau after 2022 whilst global oil demand is projected to grow by 800-900,000 bpd between 2022 and 2025 potential OPEC+ supply management would bear its fruit after next year. Until then, it is more about damage limitation, rather than balancing global oil stocks.