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$100 Brent Could Be A Stretch Too Far

By: Harry Altham, Energy Analyst, Market Analysis EMEA & Asia

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$100 Brent Could Be A Stretch Too Far
 
Harry Altham
Energy Analyst, EMEA & Asia
harry.altham@stonex.com

Yesterday’s U.S. economic data jolted markets into action after a quieter start to the day. JOLTS job openings were recorded at 9.93M, which was the lowest it has been for two years. In addition, U.S. factory orders came in at -0.7%, which was worse than the 0.5% contraction that had been expected. Brent pared earlier gains as a result, falling 0.3% beneath the day’s open within 40 minutes of the data release. Oil benchmarks recovered in the evening, with Brent June 23 closing the day $0.01 higher.

This morning has seen another relatively quiet start in crude markets – with both Brent and WTI hovering around 0.5% above yesterday’s settlement prices, with limited intraday volatility thus far. Aiding in the mini-recovery yesterday were yesterday’s API numbers, which saw the United States draw 4.36M bbl of crude plus another 8.6M bbl in products last week. Brent’s Dec/Dec spread has surged to $5.71, which is its strongest backwardation since November and an indication of the implicit tightness in cash markets stemming from the OPEC+ decision as well as the figures from the United States, which are becoming increasingly crucial for Europe.

image 67922
Source: ICE, StoneX
This week’s moves have seen open interest vacate Brent and head for WTI, whose aggregate liquidity has risen to a 13-month high. This is another indicator of the increasing importance of U.S. crudes to European markets, amid relatively stifled supplies from the Middle East. The ‘globalisation’ of U.S. crude grades should see WTI’s deficit to Brent narrow further, having already lost 15% in a week; the technical specifications of WTI should render it more expensive than Brent if we assume equal market conditions. If Brent’s utility as a global benchmark falters with the increasing use of Oman/Dubai and WTI, this spread is one to keep an eye on.
image 67923
Source: ICE, CME, StoneX

The implicit suggestion of loosening economic conditions from yesterday’s economic data is an opposing factor to the ‘stickiness’ of energy prices for inflation considerations. Monday’s OPEC+ output cut successfully weeded out the short-sellers in crude markets - as was shown by the sharp up-move that morning - but the Federal Reserve will now consider elevated risks of ‘sticky’ energy price inflation, which to some appears to be a more realistic possibility once again. 

The OPEC+ output cut certainly raises the possibility of $100/bbl this year, although it is by no means a certainty. It is perfectly plausible to argue that the fundamentals, and the OPEC+ move itself, imply bearishness in the market, and the market’s ability to digest such news is certainly better than it was last year; bond yields across the curve fell where they might have been expected to rise, while energy markets themselves settled quickly afterwards. Wind the clock back 12 months, and the comparisons are stark.

image 67924
Source: Bloomberg, StoneX. Note: the two examples used are the two supply-side shocks significant enough for comparison from 2022. The 2M bbl OPEC+ cut shows similarities with the latest 1.66M bbl cut (including Russia), in that the market was oversupplied at the time, and indicators were elevating concerns of suppressed demand-side conditions. 

Indeed, U.S. fuel markets continue to show signs of weakness; the 3-2-1 crack spread has sunk to a seven-week low, while there has been no rally in European middle distillate markets of note. Demand-side weakness stemming from growth considerations is clearly taking a more prominent role, and these currently hold more power in price setting than supply-side tightness – look at the strength of Asian crude markets against those in Europe. Given these realities, the OPEC+ move should be viewed more in the context of rooting out short-sellers and moving crude a leg higher, but a major rally ($100+) seems less likely. 

image 67925
Source: CME, Bloomberg, StoneX

 

The OPEC+ production cut certainly elevates inflationary risks, and the technicals are certainly supportive for oil at the moment. But it is the translation into fuel prices that matters, and sustained weakness in product cracks are, if anything, dovish for the Federal Reserve at next month’s FOMC meeting.

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