Macro Concerns Seize Control of Oil Market

Macroeconomic concerns were running deep in oil markets even before the latest banking crises emerged. But fears of contagion in financial markets now dominate sentiment in commodity trading, and the macro environment looks set to weigh heavily on oil this year — just as geopolitics did in 2022. Oil right now is being moved less by supply and demand fundamentals, and more by concerns that a banking crisis could spill over into the physical economy, slash consumer spending and prompt a recession that would knock oil demand. For an oil market that is well-supplied — at least for now — that could point to continued pressure on prices. Benchmark crudes Brent and West Texas Intermediate lost about 10% of their value in response to the crisis, trading at their lowest levels since December 2021 before rebounding later in the week to around $76 per barrel and $70/bbl respectively. Even before the collapse of Silicon Valley Bank last week and UBS’ buyout of troubled Swiss bank Credit Suisse this week, Energy Intelligence had highlighted the oil market’s shift in focus to macro issues, prompted by rapid increases in interest rates, sticky inflation and ongoing industrial weakness. With the economic growth outlook now even cloudier, some analysts think a recession is inevitable, and the only question is how severe the downturn will be.

A lack of fundamental support is not helping oil’s cause. A widely expected big rebound in Chinese demand has yet to appear, Russia’s voluntary 500,000 barrel per day cut this month has so far failed to materialize, and global crude inventories have returned to their highest levels since the third quarter of 2021. The physical market has been balanced, if not oversupplied. Russian supply continues to show great resilience to Western sanctions — recent crude and condensate production levels of about 11 million b/d are actually up 250,000 b/d on 2022. A mild winter has moderated demand in the Northern Hemisphere. Beijing’s decision in late 2022 to lift its strict “zero-Covid-19'' policy prompted expectations of a pickup in global demand, but destocking has kept Chinese refiners’ crude imports in check so far this year. Meanwhile, the realignment in financial markets has forced banks and investment funds to exit their oil bets, causing oil prices to plunge and the futures curve to weaken. With prices sinking, refiners have limited buying, forcing spot prices down even more.

Attention is bound to turn to Opec-plus if the selloff continues. The group in October decided to cut headline production by 2 million b/d in a preemptive move to prevent a slide in prices, then around $90/bbl, amid extreme market uncertainty and mounting fears of a recession. But it never even cut the 1 million b/d expected to be effectively taken off the market. Many members were producing far below their quotas, allowing them to maintain or increase supply without violating the agreement — and the actual cut was a mere 70,000 b/d in February, based on Energy Intelligence’s assessments, though behind this, Mideast Gulf countries have cut significant production, countering increases from others. Current thinking in the group is that it is best to wait and see how the banking crisis and other macroeconomic developments play out, than rush into a change of policy at a time when markets are being swayed by sentiment more than fundamentals. In a recent interview with Energy Intelligence, Saudi Energy Minister Prince Abdulaziz bin Salman said Opec-plus would leave its current production policy unchanged until the end of this year.

But not all is bearish, and there is some risk that oil prices could overcorrect to the downside. Crude demand growth was always projected to be backloaded more to the second half of this year, while refined products markets indicate greater tightness than those for crude. The International Energy Agency (IEA) sees global oil demand rising by 3.2 million b/d between the first and fourth quarters of this year, which would be the largest gain over the course of a calendar year since 2010. All told, the IEA sees demand growing by 2 million b/d to an annual record 102 million b/d this year, including a peak of 103.5 million b/d in the fourth quarter, driven by China’s recovery and the post-Covid-19 rebound in air traffic. That compares to our forecast of 1.6 million b/d growth to 101 million b/d in 2023. Global product inventories dropped 20 million bbl in February but are 100 million bbl higher than pre-pandemic February 2019, Energy Intelligence calculates. Yet refinery margins remain high, especially for diesel and gasoline — a sign of ongoing tightness that will offer some support to crude prices.