Don't Be Fooled By This Oil Rally
Short-term drivers unlikely to be maintained.
Back in September, we published a piece entitled ‘Oil On A Slippery Slope’, in which we argued the case for WTI to head down to $60 per bbl in the coming 3-6 months.
For much of Q4, WTI traded in a tight range from $66 to $73 before breaking higher in recent weeks, taking out $80 in trading yesterday:
So the question we’ve been talking over at AP HQ is this: has our fundamental view on oil changed based on the drivers in the short-term, or is oil likely to see this move fade? Following that, what’s the best trade idea to express a view?
A Quick Recap
When we last covered oil, we cited a few key reasons why we felt the dynamics going into the end of the year weren’t positive. These included:
Weak Chinese consumption = July customs data showed oil imports were at the lowest level in two years. The data that was released on the week we wrote the piece showed that although August arrivals were higher than the July figures, it was still below August 2023. Combined with a string of poor economic data pieces which showed a weak consumer and contracting PMIs, we felt this lack of demand would further hurt the oil price.
OPEC+ cuts = In September, the group said they would delay by two months a plan to unwind voluntary production cuts that were due to start in October. At that point in time the cuts that were already in place from 2024 hadn’t had any material impact in supporting the oil price. From our rough calculations, we felt that we’d need to see an additional 2-4 million barrels of cuts per day in order to signal a meaningful change to the market.
Middle East ceasefire = We held to the view that a ceasefire between Israel and Gaza was coming. Recent developments in September in ceasefire negotiations between Israel and Hamas showed some progress, though obstacles remain. A three-phase ceasefire proposal, mediated by Egypt, Qatar, and the U.S., had been a focal point of discussions.
Reasons For The Pop
Before we review the above points, let’s next consider why the oil price has popped in recent weeks. We see three main drivers behind this:
U.S. sanctions on Russian oil exports = President Joe Biden’s outgoing administration announced the sanctions against more than 160 tankers recently, and although one might think that this is simply another sanction that’s rather meaningless, the market clearly disagrees. These measures have disrupted the flow of Russian crude oil to major buyers like India and China, leading to concerns over global supply shortages. Granted, this concern will likely only last until supply chains can adapt, but it has still been a valid reason for the price move.
Cold snap seasonal demand = It hasn’t just been cold in London to start the year. The cold snap across Europe and parts of the U.S. has triggered larger than usual demand for fuel in recent weeks, with a bid for heating oil being well correlated to driving up crude oil prices.
Falling U.S. inventories = The U.S. Energy Information Administration reported a two million-barrel draw in crude oil stocks for the week ending Jan 12th, exceeding analysts' expectations. This was the eighth consecutive week that crude inventories fell in the States.
For those unfamiliar, a draw indicates that more oil has been removed from storage than added, versus a ‘build’ being the opposite. This draw again provides concern about a potential supply shortage.
Our View From Here
Simply put, we feel oil will finish the year lower than where we are currently trading. This is based on both fundamental and technical factors.
The news of a six-week ceasefire on Thursday (starting on the weekend) between Israel and Hamas saw only a modest drop in oil. This may be because Israel’s PM Benjamin Netanyahu has not signed it yet, with him making last-minute accusations about Hamas trying to change and renege on the deal.