Although global markets experienced a cross-asset knockdown after the surprising miss on China's retail sales data yesterday, oil prices continue to hold up their end of the bargain and trade within tight ranges, despite OPEC's planned production rewinding. Also helping price action into the weekend was the EIA inventories which confirmed the large crude draw reported in the earlier APIs – lower imports were the feature, but implied demand looked solid.
OPEC+ confirmed the start of the production cut taper, but more gradually than specified in the original plan thanks to over-compensation in August and September by countries that failed to meet the production cut quotas during the initial phase of the agreement. The exact level of over-compensation has yet to be specified, but Saudi Arabia's Energy Minister estimated a figure slightly above 800kb/d.
Over-compliance in the last few months with Saudi Arabia, as usual, doing the heavy lifting has meant that production cut agreement had its intended effect, despite others being slow to meet quotas. But a break in the Covid-19 storm clouds is a smoother taper, with around 1.1mb/d of returning production instead of the 2mb/d anticipated.
This is a uniquely uplifting outcome for oil markets, especially as post-meeting commentary emphasized that returning production could easily be absorbed by improving demand.
Lingering concerns about the potential impact on demand from rising coronavirus infections and a subsequent rebound in US production are the threat to the bullish view, so over the near term, the market will remain cautious. Still, the variables seem to be supportive of oil in the medium and longer-term.
As was widely anticipated and fully prognosticated by most oil traders, after the sharp relief rally in May, oil prices have stabilized and remained rangebound since June. The resurgence of Covid-19 in the US and other pockets worldwide is causing slower rebalancing in specific oil product segments, notably diesel and aviation fuel, so the second stage of the oil market rebalancing or cyclical recovery will take time.
But achieving the OPEC Brent forecast of $45-50/bbl, or even higher, is well within grasp, provided the market gets a little help from a flattening of the US and global epi curves that will allow a quicker recovery in worldwide travel.
We’ve been stuck in a very tight trading range for some time. Despite the numerous short-term swing factors that have historically influenced oil markets, invariably Brent continues to gravitate back to the midpoint of the market’s perceived current bookends ($40-45).
While near-term headwinds remain, the overwhelming evidence suggesting oil is past the trough, and that supply and demand are rebalancing –at a gradual pace, mind you. Indeed, this sees price action continuously revert to the short term "mean", indicating markets are finding some semblance of equilibrium. It also suggests that current price action could extend throughout the summer until soft lockdowns flatten the US epi curve or the ultimate recession stopper – a vaccine – is in hand.
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