Dip in crude oil prices despite bullish undertones comes as a surprise

Deductive logic has gone for a toss when it comes to forecasting international oil price behaviour

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Getty Images

K Raveendran/IPA

Deductive logic has gone for a toss when it comes to forecasting international oil price behaviour.

Defying all expectations of a spike, crude prices have hovered just about the same level as last year this time, which means the commodity is trading in the $70s range.

This is quite a turnaround, given that oil has been steadily climbing, aided by a 2 million barrel per day output cut announced by OPEC+ cartel.

Clearly, the oil market has priced in the recessionary risks in demand, which are dominating the whole macro environment, with equities and funds taking big hits and threats of new slowdowns emerging, particularly from China.

There is talk of even lower prices in the coming months to around 60s, perhaps followed by a range in the 90s and by the middle of next year to around 110.

While the developments in China are a bit of concern for the time being, market analysts tend to discount these as a long-term threat to oil. They feel that the market may have misjudged the Chinese lockdowns and cite analysis of the impact of the latest lockdowns as reflected in real-time traffic activity, which shows their likely effect on China’s short-term oil demand, particularly in transportation, is likely to be minor.

China’s reported Covid-19 cases have reached new highs, with daily infection numbers surpassing their previous April peak and surging above 40,000 on 28 November.

The latest surge of infections has led to new lockdowns and movement restrictions of varying magnitude being imposed across several of China’s largest cities, including Guangzhou, Chongqing and Beijing.

The latest lockdown wave comes only weeks after the Chinese government showed the first signs of easing the country’s zero-Covid policy by slightly relaxing travel quarantine rules.

 According to Rystad Energy, however, China’s nationwide road traffic has so far been resilient despite latest round of lockdowns. Real-time data on mainland Chinese road activity indicates a small downturn in country level road traffic during the fourth week of November, sliding from 97 percent to 95 percent of 2019 levels.

By comparison, the country level road traffic index dropped to around 90 percent in April 2022 amid the large-scale Shanghai lockdown. But over the last few days there has been a rebound in road activity as certain short-lived lockdown measures were eased and the traffic index has thereafter climbed back to 98 percent.

 A major obsession of the oil markets currently is the run-up to the oil embargo against Russia coming into force in February next year, but this is largely a European affair and focussed on diesel supplies.

In fact, Europe is in a race to increase diesel stocks as the fear and uncertainty over the February 5 phase out of imports from Russia takes effect. The continent has been preparing by securing higher imports from the rest of world over the past months. But there does not seem to be enough quantities to meet current or future demand.

 Europe is thus bracing itself for the long haul with higher diesel prices, and there is no easy solution in sight.

According to Rystad, any change in pricing will come from cuts to demand as a result of high prices, rather than the supply side which will remain tight.

Overall, it feels the high diesel price distortion is going to continue and remains a key driver for inflation across all sectors including energy, transport, food and construction.

As European temperatures have dived in recent weeks, Russian threats to cut off gas supplies amidst the threat of a European price cap have stirred individual countries into action to tie up long term supplies.

For instance, Germany has signed two agreements to import LNG from Qatar’s North Field for at least 15 years from 2026.

 The price cap issue is still raging with several countries voicing their opposition due to its negative impact on their energy supplies.  EU member states had agreed to the European Commission’s proposal to cap gas prices at $285 per megawatt per hour (MWh) for one year.

However, a formal approval of the gas cap has not been reached yet and is probably set to be decided at a meeting on 13 December.

Poland, Greece, Italy and Belgium have been vocal supporters of the cap, but Germany is reluctant due to concerns that a ceiling price could reduce supplier incentives to provide enough gas onwards into Europe, especially when Nord Stream 1’s supply seems highly unlikely to resume in the near term.

There are also wider concerns about the ability of some EU member countries to provide financial aid to help utilities buy more gas or to compensate citizens facing high household bills.

More importantly, not every country has the flexibility to continuously offer financial support over the long term.

(IPA Service)

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