Crude gained 8 percent last week – Saudi Arabia plan a voluntary output cut;• President-elect Joe Biden to layout stimulus plans this week;
• EIA showed large bullish draw to crude oil inventories by the end of 2020.
Oil ended the first week of 2021 with a gain of nearly 8 percent as OPEC leader Saudi Arabia continued with its lower-for-longer supply strategy. Saudi Arabia announced an additional 1 million barrels per day (Mbpd) output cut over February and March. OPEC+ agreed most producers would hold output steady in February and March while allowing Russia and Kazakhstan to raise output by a modest 75,000 bpd in February.
The oil market’s attention has been almost entirely on the potential for reduced global supplies. The decision by the Saudis was a big deal and it’s an underpinning for oil prices. Clearly, maintaining the oil price was paramount and they were willing to let others take advantage in order to accomplish that. This was followed by a large US crude oil inventory drawdown reported by the EIA earlier in the week, which only provided further support.
Further boost to crude prices came from the annual rebalancing by commodity funds to match the requirement of indexes they are benchmarked against — an exercise that began Friday and could result in the purchase of some $9 billion of oil contracts over the next week. WTI’s nearest contract traded at a premium to the following month for the first time since May, while the closely-watched spread between the nearest two December contracts is at its strongest intraday level since last January.
Saudi Arabia’s surprise cut appears to have caught some Asian buyers by surprise and demand for US crude for export to Asia has gained this week. Unipec, the trading arm of China’s largest refiner, bought its eighth cargo of North Sea crude in a pricing window run week and was seeking more in what may be the heaviest buying of its kind on record.
Meanwhile, the bullishness in the market that drove oil prices higher came amid the prospects for a deeper fiscal stimulus in the US, vaccine optimism and a weaker US dollar. Moving on, and the cold weather that we are currently seeing in North Asia is helping to reduce middle distillate stocks in the region. Latest data from Singapore shows that middle distillate inventories fell by 689 million barrels over the last week, leaving stocks at their lowest level since August. Beijing’s coldest weather since 1966 is pushing local energy prices higher and temperatures across much of Europe and Asia are expected to stay below average for most of January, supporting higher demand for heating oil as people turn up the heat during the lockdown. However, this factor is yet to clearly materialize on the petroleum refining margins.
In all this optimism, lost, or rather overlooked, was the question about the weakening demand for fuels in the US, particularly with gasoline demand falling to its lowest since the start of the pandemic and inventories of diesel-led distillates piling up too.
For EIA inventories, Crude inventories fell by 8 million barrels to 485.5 million barrels, their biggest decline since August, exceeding expectations for a 2.1 million barrels drop. The drawdown in stocks is typical for the end of the year, when energy companies take barrels out of storage to avoid hefty tax bills. However, product demand slowdown remains a main worry as US gasoline stocks rose by 4.5 million barrels, the biggest increase since April, the EIA said, ahead of expectations for a 1.5 million barrels rise. Distillate stockpiles rose by 6.4 million barrels, versus expectations for a 2.3 million-barrel rise.
Natural gas prices retreat after a cold forecast was put back into the forecast and the government storage report fell short of expectations. While the fundamental deficit remains favourable to the bulls, the lower heating demand projections have pushed the total gas balance to a surplus of around 1.97 Bcf/d. The main trend for gas is down, however, firm demand for LNG will be one reason providing a floor to the selloff. Weather is expected to remain in the driver’s seat when it comes to price action over the coming weeks. Markets are discounting the fact that due to warmer weather forecast, it could be a sign that even a major draw in this week’s government storage report for the week-ending won’t be enough to trigger a meaningful rally.
Crude gains look questionable as the market can turn its attention back to fuel demand issues in the coming weeks, and also to how well the US and the rest of the world are coping in their recovery from COVID which can lead to sell off at higher levels. The big questions facing traders is how long will the OPEC+ news support speculative buying and at what level will the rising number of COVID cases and potential lockdowns weigh enough on demand to pressure prices?
The move by Saudi Arabia could keep oil prices propped up for some time, but at some point prices will become overextended as the focus shifts toward slower demand for gasoline and other fuels in the United States and other parts of the world due to wider restrictions to contain the spreading pandemic. Severe mobility restrictions around the world to contain a surge in COVID cases still weighed on fuel sales, weakening prospects of energy demand recovery in the first half of 2021.