Oil under stress on fading hopes of an early rebalancing

Oil slumped almost -23% in Q3CY23 and -11% in 2023 as overall global supply remains higher than demand despite OPEC+'s effort of production cut and control the oil market. Higher production by the U.S., Brazil, Mexico, Canada and Iran is ensuring higher/adequate supplies and making OPEC’s effort to control the market difficult despite so-called production cuts and lingering Gaza/Red Sea and Ukraine war tensions.

In its most recent Jan’24 MOR (Monthly Oil Report), the IEA said:

“Global oil demand growth slowed to 1.7 mb/d y-o-y in 4Q23 – well below the 3.2 mb/d rate registered during 2Q23-3Q23, mirroring the unwinding of China’s post-pandemic release of travel demand. Growth is projected to ease from 2.3 mb/d in 2023 to 1.2 mb/d in 2024, as macroeconomic headwinds, tighter efficiency standards, and an expanding EV fleet compound the baseline effect.

World oil supply is forecast to rise by 1.5 mb/d to a new high of 103.5 mb/d, fueled by record-setting output from the US, Brazil, Guyana, and Canada. Non-OPEC+ production will dominate growth this year, accounting for close to 1.5 mb/d. By contrast, OPEC+ supply is expected to hold broadly steady on last year, assuming extra voluntary cuts that started this month are phased out gradually in 2Q24.

Divergence in regional refinery profitability narrowed further in December as margins in the Atlantic Basin weakened but strengthened in Singapore. Refinery crude throughputs are forecast to average 83.3 mb/d in 2024, overtaking 2018’s record of 82.5 mb/d. However, the disparity between OECD and non-OECD runs will continue to widen, as new capacity starts in the Middle East, Africa, and China.

Russian oil exports rose by 500 kb/d to a nine-month high of 7.8 mb/d in December. Crude shipments were up by 240 kb/d m-o-m to 5 mb/d while product flows rose by 260 kb/d. At the same time, estimated export revenues slumped to a six-month low of $14.4 billion, as Russian oil price discounts increased and benchmark oil prices declined.

Global observed oil inventories were down by 8.4 mb in November, to their lowest since July 2022, with crude oil and middle distillates particularly tight. A decline in oil on water (-12 mb) was partially offset by on-land stock builds (+3.6 mb). Oil products were decreased by a substantial 24.6 mb, while crude oil rose by 16.2 mb. Preliminary data suggest that global inventories rose in December, as oil on water surged.

Benchmark crude oil futures recovered by around $4/bbl from their mid-December lows as tensions in the Red Sea reignited geopolitical concerns. Prices declined last month amid comfortable physical balances, with record US oil supply making its way into the Atlantic Basin. Fund exchange positioning slumped to its most bearish level in years. At the time of writing, Brent futures were trading at $77/bbl.

Highlights: Choppy waters

Rising geopolitical tensions in the Middle East, which accounts for one-third of the world’s seaborne oil trade, have markets on edge at the start of 2024. US and UK airstrikes on Houthi targets in Yemen in response to attacks on tankers in the Red Sea by the Iran-backed group, have raised concerns that an escalation of the conflict could further disrupt the flow of oil via key trade chokepoints. While oil and LNG production have not been impacted, a rising number of ship owners are diverting cargoes away from the Red Sea. At the time of writing, Brent futures were just above $77/bbl and WTI around $72/bbl.

Barring significant disruptions to oil flows, the market looks reasonably well supplied in 2024, with higher-than-expected non-OPEC+ production increases set to outpace oil demand growth by a healthy margin. While OPEC+ supply management policies may tip the oil market into a small deficit at the start of the year, strong growth from non-OPEC+ producers could lead to a substantial surplus if the OPEC+ group’s extra voluntary cuts are unwound in 2Q24.

Global oil supply is forecast to rise by 1.5 mb/d to a new high of 103.5 mb/d in 2024. The Americas – led by the United States, Brazil, Guyana, and Canada – will dominate gains in 2024, just as the region did last year. After a steep rise in output in 4Q23, global oil supply is expected to decline this month as a blast of cold weather sweeping through the United States and Canada takes a toll on oil operations.

Increases in global oil demand are set to halve from 2.3 mb/d in 2023 to 1.2 mb/d this year, with the post-Covid recovery all but complete, GDP growth below trend in major economies, and as energy efficiency improvements and electrification of the vehicle fleet curb oil use. Throughout 2023, the pace of demand growth outside of China slowed significantly, to around 300 kb/d on average during 2H23. China will continue to lead oil demand growth in 2024, with its expanding petrochemical sector gaining an ever-larger share.

At the start of 2024, the risk of global oil supply disruptions from the Middle East conflict remains elevated, particularly for oil flows via the Red Sea and, crucially, the Suez Canal. In 2023, roughly 10% of the world’s seaborne oil trade, or around 7.2 mb/d of crude and oil products, and 8% of global LNG trade passed through this major trade route. The main alternative shipping route around Africa’s Cape of Good Hope extends voyages by up to two weeks – adding pressure on global supply chains and boosting freight and insurance costs.

As always, the IEA stands ready to respond decisively if there is a supply disruption and the global oil market requires additional barrels. IEA member countries collectively hold stocks of around 4 billion barrels, including 1.2 billion barrels of government-controlled stocks held exclusively in case of an emergency. That buffer should help assuage market jitters and angst among governments, industries, and energy consumers.”

Conclusion:

Overall, oil is under pressure due to the concern of higher supplies and lower demand. From the IEA flash data, at a glance in Dec’23, the OPEC+ (including exempted members Angola, Mexico, Iran, Libya, and Venezuela) production was marginally up around +0.04 mbpd to 42.95 mbpd, still higher than the July’23 levels of 42.62 mbpd and projected average production of 41.98 mbpd in Q1CY24. If we consider the U.S., Canada, Guyana, and Brazil production increase of around +1.50 mbpd on average, total global production may be higher by around +1.40 mbpd even after the -0.13 mbpd average production cut by OPEC+.

In any way, most of the OPEC+ producers are now producing oil at around their current maximum sustainable capacity except Saudi Arabia, Russia, Iraq, Iran, Nigeria, Kuwait, and UAE to some extent; net effective OPEC+ spare capacity is now around 5 mbpd, led by around 2.50 mbpd of Saudi Arabia (almost 50%), which was the kingmaker of the oil market, now being steadily replaced by the U.S., which is now producing over 20 mbpd, much more than Saudi Arabia and Russia combined around 18 mbpd.

Meanwhile, oil demand growth is subdued amid slowing economic activities in Europe and China. Also, the higher cost of living is affecting discretionary personal travel demand globally. The U.S. is now in duet with Saudi Arabia to keep oil prices in control and is even ready to allow Iran to export higher while going slow to refill the SPR shortage. As oil is Saudi Arabia’s main source of revenue, there is a constraint for it to cut further, although it may extend the present voluntary cut of -1.0 mbpd through 2024. But the U.S. may also counter this by higher production and supply from Iran, Iraq, Venezuela, UAE, and even Kuwait by influencing various policies. Robust demand from China and India is now basically for higher refining demand from Europe, which bans Russian ‘dirty’ oil, which is being rerouted through Chinese and Indian refiners (‘washing machine’).

Looking ahead, we may see subdued growth in global oil demand amid the synchronized chorus of EVs, increasing adoption of high/semi-high-speed railway networks in the U.S., Europe, India, and China (instead of personal long drive and even air travel), and WFH/Hybrid mode of work.

At a glance, there is a significant difference in the oil balance equation between OPEC and IEA/EIA estimates. For 2023, OPEC estimates show around a -0.61 mbpd drawdown, while IEA/EIA shows a +0.20/+0.66 mbpd draw-up. Similarly, OPEC is estimating around -1.36 mbpd draw down for 2024 against IEA’s projection of +0.30 mbpd draw up and EIA’s +1.39 mbpd draw up.  Although OPEC is criticizing IEA/EIA for its ‘biased’ calculation, intending to keep oil down (in line with US interest), the market believes in IEA/EIA estimates, not OPEC as the former is an independent agency.

Market wrap:

On Friday oil edged down but edged up for the week amid escalating geopolitical tensions in the Red Sea (Houthi/Iran-US/UK/Israel) and a bullish inventory report by EIA/API. On Friday, Wall Street was boosted by techs/chip makers (AI optimism) after upbeat guidance by Taiwan semiconductor giant TSMC; AMD, NVDA (NVIDIA) and other chip stocks like Texas Instruments jumped. Also, upbeat US consumer sentiment and softer 1Y inflation expectations data (UM) boosted Wall Street and Gold, while USD slips.

On Friday, Wall Street was boosted by techs, banks & financials, communication services, consumer discretionary, real estate, industrials, energy, materials, and healthcare, while dragged by consumer staples and utilities. Dow Jones was boosted by Travelers (upbeat report card), Intel, IBM, Salesforce, JPM, Boeing, and Apple, while dragged by United Health, Walgreens Boots, Coca-Cola, P&G and Walmart.

Technical trading levels: DJ-30, NQ-100 Future, Gold and Oil

Whatever may be the narrative, technically Dow Future (38055), now has to sustain over 38200 levels for a further rally to 38500 and 38700/39000-39200/39500 levels in the coming days; otherwise, sustaining below 38150-38100 may again fall to 37500-37300 levels and may further fall to 37200/37000-36850/36650 and 36400/36200-36050/36000-35800*/35500 and may further fall to 35350/35250-35000/34800 and 34650/34120-34000 and 33700/33200-33000/32400 in the coming days.

Similarly, NQ-100 Future (17440) now has to sustain over 17650 for a further rally; otherwise, sustaining below 17600-17500, may again fall to 17200/17100-17000/16850 may again fall to 16550/16300-16200/16050 and 15700/15400, and further 15100-14140 in the coming days.

Also, technically Gold (XAU/USD: 2030) now has to sustain over 2040 for a further rally to 2050-2062-2085-2105/2120 and 2130/2152 levels; otherwise sustaining below 2035, may again fall to 2020-2010-2000-1990-1975-1960/1940 in the coming days.

Technically Oil (73.60) now has to sustain over 76.00 for any further rebound to 77.50/78.50 and 79.50-80.50-81.25 and 83; otherwise sustaining below 75.50-75.00, may again fall to 72.00-70.00-69.15/67.85 and further 66.75/65.00-64.00/63.50 and 60.00 levels in the coming days.