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Europe appears indecisive in its decoupling from Russian energy. The same can’t be said the other way round.

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

Europe appears indecisive in its decoupling from Russian energy. The same can’t be said the other way round.
 
Harry Altham
Energy Analyst, EMEA & Asia

Brent is trading marginally lower this morning as worries over the global economic outlook return to the fore. Total open interest in Brent has fallen to its lowest level in seven years, amid asset reallocation and a Bloomberg report stating that margin calls across the energy complex are in excess of $1.5bn. Yesterday was marked by the OPEC+ announcement of an output cut of 100k bbd for the month of October, as the confederation looks to instil confidence that it retains control over the fundamentals. The market initially demonstrated a lack of faith in OPEC+; a $1 up-move in the period following the announcement represents a general consensus that demand outpacing supply, in contrast to OPEC+’s current estimates of a 400kbbd supply surplus. Despite that concern, prices have completed a full reversal - with WTI breaching technical support around the $87 mark, despite an absence of fresh headlines this morning. 

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Source: ICE, Bloomberg
Earthquake in china poses extended threat to chinese recovery
Yesterday’s 6.6 magnitude earthquake in Sichuan represents a significant escalatory risk to the lockdown affecting 21 million residents in Chengdu; 65 people are thought to have been killed and there are widespread reports of significant damage in mountain towns to the west of the city. Chengdu is a critically important industrial, technology and mining centre in central China, and a worsening of the outbreak there has the potential to have a potent impact on the wider Chinese economy. Disease control is notoriously difficult in the wake of natural disasters, and we shall closely monitor COVID data to assess whether the outbreak could spread as a result. 
HOW RUSSIA IS MAKING STRIDES TOWARDS SECURING ITS FUTURE

Europe’s attempts to wean itself off Russian energy have been much discussed, but Russia’s own attempts at reorientation are arguably more progressed than Europe’s and could provide some optimism that its natural resources will still reach the wider market less interrupted than many Western commentators are predicting. So far, Europe has touted an oil embargo, a price cap and a ‘weaning’ off Russian gas (among many other measures) as it seeks to retaliate against Moscow for its aggression in Ukraine. Six months after Russia’s invasion, Europe’s energy relationship with Russia remains decidedly unclear. A G7-agreed price cap is designed to simultaneously sustain Russian oil exports to the global marketplace and limit Government revenues; however, Russia has made it clear it has no intention of trading to countries at a given ceiling. Does this mean Europe will stick to its embargo? If so, Europe has to find another 1M bbd of crude from elsewhere in the space of eight weeks, which is a Herculean and surely expensive undertaking. As for gas, Europe has yet to agree and implement the construction of any new pipelines, despite the inelasticity of supply into NW Europe of non-Russian gas and the much discussed vulnerabilities of its industries.   

Meanwhile, Russia’s approach is making progress; the country is intending to increase loadings of ESPO crude at its Kozmino Port in the Far East by as much as 20% to almost 900k bbd. This reflects a strategy to increase capacity in the Far East to provide greater accessibility to Russia’s new primary export markets (particularly to China, which buys oil from Kozmino on a spot basis in addition to pipeline imports). Bilateral deals to restock China’s strategic petroleum reserve and to supply Indian refineries will help sustain at least 80% of pre-war oil revenues (at current prices), while discussions are being held to build a new gas pipeline to India via Iran despite Gazprom stating last year that such a project was too capital intensive. Russia is heavily dependent on Europe for its gas exports and is currently flaring 4.3MCM/d ($10M notional value) due to closure of Nord Stream 1 (Baltic storage tanks being filled in excess of capacity). Finally, Russia is in the process of creating its own oil benchmark to rival Brent, Dubai/Oman and WTI, which it hopes will reduce the discount Russian oil trades versus the existent benchmarks. Though financing and fixed capital investment remain among a raft of major challenges ahead, we believe it is too early to write off Russia’s energy economy; Russian proactivity requires greater manifestation before appropriate critical evaluation of its prospects can be carried out. 

 

 

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