Few months ago, a weekly US inventory report similar to yesterday’s would have triggered a respectable price rally. It was a reliably supportive set of data that showed crude oil inventories decline by 2.1 million bbls due to the 490,000 bpd fall in net crude oil imports and the 1.2% rise in refinery utilization rates. Not surprisingly, PADD3 was the main culprit behind the drawdown (-4.9 million bbls) whilst Cushing stocks consolidated with a gentle increase of 216,000 bbls. Rising runs are usually the harbinger if swelling products inventories. Not this time. Both gasoline and distillate inventories dropped a little bit whilst the “other product” category registered a contraction of 5.2 million bbls and for a good reason. Products supplied swelled by 2.3 mbpd week-on-week to 21.6 mbpd. The net result is an 8.9 million bbls reduction in total commercial inventories that are 9.7% lower than last year and 3.8% below the historic 5-year average baseline.
The latest statistics were constructive, yet it was greeted with a massive sell-off that saw the US crude oil benchmark lose $2.40/bbl on the day whilst Brent broke below the $80/bbl mark. The structures of the two main crude oil futures contracts have also collapsed. The accelerated selling was the product of three factors: looser oil balance, discussed below, fears of rise in interest rates that has been markedly strengthening the dollar (its index against major currencies reached its highest level since July last year) and administrative steps from the US administration to cheapen domestic pump prices.
We believe it is the latest that played the most critical role in yesterday’s sharp fall and this morning’s continuous weakness. The US president claims there is growing evidence of market manipulation by oil and gas companies to keep retail fuel prices artificially high. Without elaborating he asked the Federal Trade Commission, the independent body run by a Biden’s nominee, to investigate possible criminal activity in the retail gasoline market. If the attempt fails to uncover nefarious dealings releasing or loaning SPR barrels could be the last resort to calm galloping prices. The US has gone as far as to ask several consuming nations, Japan, South Korea, India and China, amongst others, to consider a co-ordinated SPR release, Reuters reports, in what would be a rare and even desperate step to call for international support in an unquestionably domestic matter. Whether present market conditions qualify as emergency is open to interpretation, nonetheless the silence from the IEA on the issue is deafening. The latest moves come as prices at the pumps are close at 7-year highs, when demand is perky, partly because of the unprecedented and necessary stimuli measures launched at the height of the pandemic and when the president’s approval rating is hitting its lowest level during his presidency. Clearly, WTI above $80/bbl and retail gasoline at $3.5/gallon exceeds the pain threshold of the administration.
Just how loose will next year’s oil balance be?
Calling it a double whammy might be an exaggeration but the latest updates on the global oil balance clearly reflect demand growth worries due to flare-ups in coronavirus infection rates and growing enthusiasm amongst oil producers triggered by $80+ oil prices. The net result is deteriorating supply-demand balance, not just for 2022 but also for the last quarter of the current year. The adage of “the best cure for high prices is high prices” rings true.
All three agencies have revised the 4Q 2021 call on OPEC considerably down. The EIA and OPEC by 200,000 bpd and the IEA by 300,000 bpd. The EIA and the IEA were forced to cut their estimates because of a sizable upward revision in 4Q non-OPEC supply. The former has actually upped its domestic production forecast for the last quarter of the year by 340,000 bpd, from 11.13 mbpd in October to 11.47 mbpd a month later. This amendment is chiefly the result of rising US rig counts that have jumped from 275 at the beginning of the year to 454 last week and the rise in US shale production. It will have swollen to 8.3 mbpd by next month, up from 7.8 mbpd in January. OPEC, on the other hand, sees falling demand for its oil because of a 330,000 bpd cut in 4Q oil consumption due to stuttering economic growth. The causes vary but the end result is the same – the call on OPEC will be less than thought last month. Of course, a colder-than-average winter, prolonged shortage of natural gas and LNG can still trigger a sudden spike in oil consumption, but the latest forecasts suggest that global oil inventories will draw at a slower pace than expected last month and before, effectively capping any attempt to push prices significantly higher.
Next year, judging by the latest updates, will prove to be tricky and difficult to manage for the OPEC+ alliance. There will be nothing wrong with global oil consumption; it will grow at a healthy rate – between 3.36 mbpd and 4.16 mbpd, depending on which forecasters one tends to believe. The trouble lies on the supply side of the oil equation. Firstly, non-OPEC supply will grow almost as fast as global demand. Consequently, the call on OPEC will only be marginally up year-on-year. The average growth is estimated at 360,000 bpd compared to 4.54 mbpd in 2021. Add to that the scheduled regular monthly increases in OPEC+ production, at least until April next year and all of the sudden 2022 looks oversupplied. At this stage it is anyone’s guess by how much supply is set to exceed demand but if the latest numbers are anything to go by the producer group will have to halt the regular increase in output levels in order to prevent oil inventories from rising back above the 5-year average again.
The silver lining on this cloudy outlook is the baseline; the 4Q 2021 OECD stock levels are very low. There is a consensus that the year will end with inventories in the developed part of the world around 2.75-2.77 billion bbls, the lowest for nearly 7 years. This vindicates $80+ prices in the immediate future but there is not much left of 2021 and the market is forward looking. The perceived looser fundamental backdrop in coming months could easily take the wind out of the bulls’ sails. Moderate prices, in turn, will tame inflation, could delay interest rate cuts, and provide some breathing space for central bankers and policy makers. Has a long-term peak been achieved last months? In the words of Churchill knowledge is knowing a tomato is a fruit. Wisdom is not putting it in a fruit salad. We know the sentiment and the narrative have changed; it has become obvious this week. Time will tell how wise we are by speculating that after a stagnating-to-slightly-lower price period the ascent will resume, possibly some time in the second half of next year.