We have seen strong moves in the major crude oil benchmarks – WTI and Brent in recent months. This was triggered by the arrival of positive news on the Covid front that the vaccines under development were extremely effective and promise an endpoint for the spread of the virus. This upward trend in crude oil was fueled by the gradual decline in US shale production and inventories over the same period.
Data-EIA, graph by author
Finally, OPEC + ‘s move in early January to limit production to mid-2021 and an additional’ gift ‘from Saudi Arabia to withdraw an additional 1 million BOPD from the market prompted WTI to take off firmly. in the 50s. In this article, we will discuss the main reasons why we think the upward trend for crude oil will continue this year. Why?
The question will return
Despite the current lockdowns slowing down demand, the trend is higher. As the implementation of the vaccines increases the pool of the virus immune population, business activity will resume and there will be a demand for refined petroleum products. The chart below shows the EIA’s, Energy Information Agency’s prediction of the trend for refined products for the coming years. For gasoline, the primary motor fuel used in the US will gradually move higher in the second half of 2021, and then moderate in 2022, just below the 2019 level. The EIA makes some assumptions about working from home and less commuting in this forecast. The forecast is not as robust for jet fuels, with slight growth in 2021, but returning to near 2019 levels in 2022. Total demand is rising to and slightly above 2019 levels in 2022. Related: The Pandemic Could Lead To A Major Oil Supply Crisis
This is positive for oil prices.
The political and macroeconomic environment will reduce the supply
Elections have consequences. The concentration of power in the coming years, with Democrats in control of all three branches of government, makes an increase in US output very unlikely. From recent highs in 2020, where the US was producing more than 13mm BOPD, production has dropped to 11.0mm BOPD in response to low prices. We will see improved and stricter regulations in the coming years. The US will be solidly moving towards more renewable fuels at the expense of petroleum-based fuels. The expected US return to the Paris climate accords will only exacerbate this trend. Fossil fuels are becoming scarcer and that is good for prices.
OPEC + has surprised the world with its decision to finally drive up prices. Using its power as one of the world’s top three crude oil producers, and its undisputed position as the world’s cheapest producer, Saudi Arabia unilaterally opted to extract an additional 1 million BOPD from global markets outside of its OPEC + -obligations. It was this move that brought the oil markets above $ 50 for the first time since early March 2020. What this strongly suggests is that the cartel is resuming its traditional role of setting crude oil prices for the world.
The decline in US inventories will return the pricing power to OPEC + firmly. The recently obtained hold of $ 50 is likely to be a rock bottom price going forward. The abundance we’ve had to deal with in recent years will continue to disappear as capital control by US shale producers keeps the overall trend low. OPEC + really has only one mission: to ensure the maximum return for its members by balancing supply and demand. Western economies’ current infatuation with climate change is less of a motive for OPEC + key countries. Their economies are mainly driven by crude oil exports, and they all want higher prices.
OPEC + resumes the role of swing producer is positive for oil prices.
Commodity prices will rise sharply
Last fall I wrote one Oil price article where I stated that there might be a commodity boom on the horizon. There is no commodity more fundamental to the global economy than crude oil. One of the other factors driving crude oil beyond scarcity is the fact that it is priced in dollars, making it very sensitive to inflationary pressures.
Market overview
The dollar index has fallen over the past year, but has recently gained support with a trend up one week. A stronger dollar is optimistic for oil prices because you get less oil for the dollar, which means you have to spend more of it to get the same amount. This is inflationary and, as mentioned above, crude oil is very sensitive to these pressures.
Related: Saudi Arabia Starts New Bull Run in Middle East Oil
Nor can we ignore the amount of stimulus the global economy has unleashed in response to the virus. We believe that as the contagion rate begins to decline, governments will address the historically low interest rates that helped provide liquidity in the pandemic. There is a price to be paid for the flood of cash that has been distributed so far, and the further stimulus that comes as the Biden government takes control of the economy. Classic monetary theory tells us that part of the price is likely to be inflation.
There is a great temptation to compare this crisis with the financial crisis of 2008, where the Treasury borrowed about $ 500 billion to provide the liquidity that prevented a collapse of the financial system. In the US alone, nearly $ 4 trillion in stimulus has been approved so far, while other Federal Reserve measures have been taken to ensure that institutions, corporations and small businesses had the resources they needed to operate. As noted earlier, the Biden administration is only just getting started, discussing trillions more about financial incentives to the economy.
Market overview
Commodity prices rose sharply between 2008-2011 in light of the stimulus measures given in response to the 2008 financial crisis. The same index below shows that the index has risen sharply over the past six months. This increase is certainly related to the amount of stimulus that is being given and expected by the global economy.
Market overview
As noted earlier in this article, crude oil is the most fundamental and volatile commodity.
A rising or sharply rising commodity price environment is strongly optimistic for higher oil prices.
Your takeaway
Brevity prevents us from discussing all of the factors that could affect oil prices in the short term. With the information in this article, we believe there are strong arguments for a sustained moderate rise in oil prices for the remainder of this year.
Longer term, we expect crude oil prices to spike as shrinking inventories fail to keep up with rising demand. We consider this inevitable, as I noted in a previous one Oil price article. Underinvestment by the major international oil companies over the past six years will create a scenario where the industry will simply not be able to respond to increased demand in a timely manner.
By David Messler for Oilprice.com
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