Crude Oil Bottom Line – Oil prices gained 2.3% on the week to settle on Friday at $63.58 for the June WTI contract. Market participants appeared more upbeat on the global recovery in demand despite COVID hotspots like India. A report on Wednesday from Goldman Sachs likely helped buoy oil prices as the investment bank reiterated its bullish outlook for oil throughout the year. The bank forecasts Brent will reach $80/Bbl this summer amid rising demand.
AEGIS agrees that the global economy is poised for more recovery this year, given the pace of vaccinations and the reopening of economies. However, we would note that OPEC and its allies still have about 7% of the world’s oil supply sitting on the sidelines. The group has earmarked about 2 MMBbl/d to come back online over the next three months, expecting demand growth “recovery” for the remainder of 2021. OPEC+ has managed the oil market very closely; its current policy is reevaluated every month. It is possible careful supply releases from OPEC+ could keep prices stable at near current levels in concert with demand growth.
Hedging recommendations from the trading team lean toward utilizing swaps in the remainder of 2021 and 2022. Cal 2022 WTI nearly reached $60/Bbl on Thursday before retreating to $58.05 on Friday. If hedging into Cal 2023, we would suggest using costless collars to allow for upside participation.
To see details on factors we believe are affecting oil prices and trade recommendations, click the “Read More” button on the Factor Matrix section in the AEGIS Research Module.
Crude Oil Factors
OPEC+ Cuts. The large volume of OPEC cuts, about 8 MMBbl/d in 1Q2021, has helped the oil market recover from pandemic lows. On April 1, 2021, OPEC+ reach a consensus agreement to increase production gradually, beginning in May. In total, the output hikes will add more than 2 MMBbl/d to global supplies from May to July. The group did note that they would need to keep their finger on the oil markets’ pulse to prevent overheating and keep the inventory draw-down rate at a reasonable pace. We moved this Factor down to reflect it has become further priced in, as the cartel has continued to help oil price find footing as demand uncertainties continue to hang over the market.
Jet. Jet fuel’s demand recovery has been lagging behind other transportation fuels thus far. Vaccination rollouts in the U.S. and around the globe continue to pick up. It is possible that. demand for jet fuel could increase quicker than what many forecasting agencies (EIA, IEA, etc..) are predicting. If this comes to fruition, then crude demand would be much closer to pre-pandemic levels, which would help support crude prices.
Iran sanctions. The U.S. and Iran held indirect talks on April 6 to discuss possible solutions to bring both sides to the negotiation table. Rhetoric from the Biden administration hinted that the nuclear deal’s resurrection would not be likely in 2021. However, progress was made during the April 6 meeting that may clear a path to more output from Iran sooner than many had anticipated, according to Bloomberg.
China has been purchasing crude from the country despite U.S. sanctions, at sizeable discounts, driving down spot market prices, per Bloomberg. According to the Wall Street Journal, China is expected to import 918,000 barrels a day from Iran in March, which would make it the highest mark since sanctions were imposed.
Covid-19 Demand/Economy. We reduced this Factor’s size to effectively unbundle jet fuel demand from the other impacts of COVID-19 on oil demand. COVID-19 is still weighing on prices, with India serving as an example of how lockdowns can be reimposed if cases and death numbers rise. The country is battling a new surge in COVID cases and the impact on transportation fuels has been pronounced, even as the lockdowns remain limited to certain cities. If cases were to get worse in the United States, this Factor could become larger and pressure prices further.
USD. A cheaper dollar helps support oil (and other commodity) prices. Over the past few weeks, the dollar has flipped into an uptrend which may be weighing on crude prices. On March 26, the dollar benchmark (DXY) reached a four-month high. We moved this factor down to reflect that it has weighed more on price as the dollar benchmark has strengthened.
Vaccine. The oil demand recovery in the U.S. and abroad is dependent on an effective vaccination rollout. So far, in 2021, the vaccine distribution has improved in most countries. As COVID-19 cases dissipate and consumer confidence returns, we will better understand how quickly crude demand will recover.
U.S. Production Growth. This factor represents the risk that U.S. producers pose in terms of added supply. Oil prices have improved dramatically, and the test will be how producers respond to higher prices. Will it be like in the past, where activity picks up at a feverish pace? Or will capital constraints and Wall Street disincentives keep output flat? In the upper left quadrant, this factor is a potential bearish surprise.
Saudi Arabia Compensatory Cuts. Saudi Arabia announced it would begin to restore output in 250 MBbl/d monthly increments starting in May. Prices held firm in response to the news, which should serve as a vote of confidence for returning demand. The kingdom did note that the policy is still flexible and that they would do what it takes to keep the market balanced. We moved this factor down to reflect it is further priced-in as the Saudi’s influence on the rally has potentially played out.
Fiscal Stimulus. The massive $1.9 trillion stimulus package was passed in the house on March 10 and President Biden signed the bill into law on March 12. The relief package, known as the American Rescue Plan, will send $1,400 checks to most Americans. The stimulus package is a supporting factor for oil prices and has the potential to increase oil demand as Americans have more disposable income to consume products/fuels. We moved this factor down to reflect it is more priced in.
Middle East Hotspots. The last few months have brought some renewed tensions in the Middle East. On March 7, oil prices spiked on news of an attack on Saudi oil infrastructure carried out by the Iran-backed Houthis. The escalatory move was the largest attack in recent memory. This is a potential bullish surprise.
Production Decline. Our first thought may go to the U.S., but global non-OPEC supply potential has likely diminished in the last 10 months. We think this Factor is well-understood and is priced in, but if production declines continue, the market may start to panic and send prices higher. Think of this as a late 2021 risk and balanced against the speed of demand recovery. In the near term, we hear more and more examples of DUCs being used to support production volumes.
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