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Barring hefty supply cut by OPEC, crude to be bearish

 

Cogencis, Friday, Feb 14

By Sayantan Sarkar and Roshni Devi

MUMBAI – The picture turned positive for crude oil at the start of the year, with prices briefly touching the $65 per barrel mark on New York Mercantile Exchange and surpassing the $70 a bbl mark on the Intercontinental Exchange. However, the industry was in for a rude shock as outbreak of the novel coronavirus in China and its spread across the world led to fears of a major slowdown in demand.

Today, the March contract of West Texas Intermediate was trading around $51 per bbl on NYMEX, and the April contract of Brent was around $56 a bbl, both down almost 23% from their highs reached on Jan 8.

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Experts believe West Texas Intermediate crude could fall to as low as $46-$47 a bbl on the NYMEX, and Brent could fall below $50 a bbl if the situation in China does not improve, and if the virus spreads to more countries. It has already spread to more than 25 nations.

The US killing of Qaseem Soleimani, commander of Iran's elite Quds Force, and the signing of a partial trade deal between the US and China later on had pushed Brent above the ceiling of $70 per bbl and West Texas Intermediate crude to as high as $65 a bbl in January.

"Prospects for crude oil remain vulnerable as the outbreak of coronavirus in China could wipe out almost 20% of demand from the region," said Manoj Jain, managing director of IndiaNivesh, a financial services company. China is the largest importer of crude oil in the world, and the second largest economy after the US.

Travel restrictions and cancellations of flights have affected demand for jet fuel, and several factories in China have been shut due to the outbreak of the virus, hurting economic activity.

Coronavirus, which originated from a seafood market in Wuhan, China has killed more than 1,400 people so far, surpassing the death toll of the Severe Acute Respiratory Syndrome epidemic in 2002-03 that killed 774 people worldwide. According to the latest data, nearly 65,000 reported cases of the virus have been confirmed worldwide.

Three deaths have also been recorded outside China--one in Hong Kong and one in the Philippines, and the most recent one in Japan.

In light of the present situation and falling crude oil prices, there is huge pressure on the Organization of the Petroleum Exporting Countries and allies to lower production even further.

At its meeting in December, the cartel along with its allies had agreed to increase curbs on oil output by 500,000 bbl per day to 1.7 mln bpd until the end of March.

A joint technical committee set up by OPEC to assess the impact of the virus on demand recommended extension of the existing production cuts till the end of 2020. It also urged the cartel to consider additional curbs on output till June.

Recent reports claim the committee had recommended reducing production by another 600,000 bpd, but OPEC is yet to take a call on it.

"With Russia hoping that the outbreak of COVID-19 (coronavirus disease) will end as soon as it appeared, we can expect no action from the broader OPEC+ grouping in the near-term on the production front. OPEC might, however, take a decision alone if Russia remains defiant and the economic status quo is maintained," said Jeffrey Halley, senior market analyst-Asia Pacific, OANDA, a US-based financial company.

Last week, Russia's oil minister said the country needs more time to think about going ahead with more curbs on output. This clearly indicates Russia's reluctance to support a cut of 600,000 bpd.

"A 600,000 bpd cut won't do much for prices, and would turn into a complete fiasco,” said Ankit Narshana, an expert at Edelweiss Financial Services, adding that OPEC would need a much deeper cut in output to even hope for any resurrection in prices.

Commerzbank AG, a major German bank, expects demand for oil to fall by at least 1 mln bpd in February from the normal levels due to the impact of the coronavirus crisis. Further, the International Energy Agency, in its monthly report on Thursday, said that world oil demand is expected to fall by 1.1 mln bpd in Jan-Mar and by 345,000 bpd in Apr-Jun. US Energy Information Administration, in its Short Term Energy Outlook, said that it expects China's fuel consumption to fall by 400,000 bpd in Feb-Apr to 14.8 mln bpd.

With demand growth now expected to fall sharply due to the outbreak, the call on OPEC's crude production will fall to 27.2 mln bpd in the first quarter, the Paris-based energy agency said in its report. However, in January, the cartel's oil production was significantly higher at 28.86 mln bpd, which raises questions over only a 600,000 bpd cut.

"OPEC produced significantly above this demand in January. And yet...production was reduced by high unscheduled outages in Libya–otherwise the oversupply would be even bigger. The decline in demand that is now anticipated means that the oversupply in February and March will probably be significantly higher unless measures are taken on the supply side to offset this,” Barbara Lambrecht and Carsten Fritsch of Commerzbank AG said in a note.

"They (OPEC and allies) have to reduce output by more than 1 mln bpd for markets to take notice. The 1.7 mln bpd cut in December is already priced in," said Jateen Trivedi, a senior research analyst at LKP Securities.

OPEC doesn't have much room for additional cuts as it would wrest control of the oil market from the cartel to the US, the largest producer of crude oil, experts said. In this present scenario, being bullish on oil will be a viable strategy for only the "brave or for the fleet of foot", OANDA's Halley concluded.  End

US$1 = 71.36 rupees

Edited by Ashish Shirke

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