Trade Talks and Missiles. The Energy Report 10/11/19

Geopolitical risk and oil prices are rising as president Trump says that Trade talks are “going really well” and reports of a missile attack on an Iranian oil tanker. The Wall Street Journal reported that an Iranian tanker near the Saudi Arabian coast suffered damage Friday in what the ship’s owner suggested may have been a missile attack. There was no fire. Bloomberg reported that the incident caused a jump in crude prices and an oil spill. Iran’s NITC initially said the missiles probably came from the direction of Saudi but later withdrew the claim. The attack comes after OPEC sent a message to the market that they would do whatever it takes to stabilize oil prices. The Wall Street Journal reported that “The narrative continues to be gloomy,” regarding the global economy OPEC Secretary-General Mohammed Barkindo told reporters Thursday at an energy conference in London. He cited the U.S.-China trade war and other geopolitical disputes, such as the U.K.’s protracted negotiations to leave the European Union. Mr. Barkindo said OPEC and its allies will make “appropriate, strong, positive decisions” to sustain oil prices when they meet Dec. 5. “All options are open,” he said. Mr. Barkindo added that he was formally inviting the U.S. to join the cooperation pact that includes OPEC’s 14 members and 10 Russia-led allies. “The [OPEC Plus] charter fits the U.S. very well,” he said. “It’s for all producers today and U.S. is biggest producer.”

Yet despite the tanker attack, the International Energy Agency says it is business as usual in the global oil market. The IEA said that the “Oil markets in September withstood a textbook case of a large-scale supply disruption as the attacks on Saudi Arabia temporarily affected about 5.7 mb/d of crude production capacity. On Monday 16th of September, the first trading day following the attacks, after an initial spike to $71/bbl Brent prices fell back as it became clear that the damage, although serious, would not cause long-lasting disruption to markets. Saudi Aramco’s achievement in restoring operations and maintaining customer confidence was very impressive. This is reflected in the fact that as we publish this Report, the price of Brent is close to $58/bbl, actually $2/bbl below the pre-attack level.

Intuitively, the precision attacks on Saudi Arabia and the possibility of a repeat should keep the market on edge. There should be talk of a geopolitical premium on top of oil prices. For now, though, there is little sign of this with security fears having been overtaken by weaker demand growth and the prospect of a wave of new oil production coming on stream – Norway’s big Johan Sverdrup project started up this month and will reach 440 kb/d by mid-2020.

In this report, for both 2019 and 2020 we have cut our headline oil demand growth number by 0.1 mb/d. However, the reduction for 2019 mainly reflects a technical adjustment due to new data showing higher U.S. demand in 2018 which has depressed this year’s growth number. This year is seeing two very different halves. In 1H19, global growth was only 0.4 mb/d but in 2H19 it could be as high as 1.6 mb/d with recent data lending support to the outlook: non-OECD demand growth in July and August was 1 mb/d and 1.5 mb/d, respectively, with Chinese demand growing solidly by more than 0.5 mb/d y-o-y. The OECD countries remain in a relatively weak state, although as we move through 2H19 y-o-y growth returns helped by a comparison versus a low base in the latter part of 2018. Demand is supported by prices (Brent) that are more than 30% below year-ago levels. For 2020, a weaker GDP growth forecast has seen our oil demand outlook cut back to a still solid 1.2 mb/d.

The renewed focus on demand and supply fundamentals does not mean that the attacks on Saudi Arabia can be shrugged off as being of little consequence. Further incidents of this nature in the strategically important Gulf region could happen and cause even greater disruption. A key lesson from recent weeks is that the world has a big insurance policy in the form of stock holdings. The market is the first responder to a supply crisis and OECD commercial stocks in August increased for the fifth consecutive month and are now close to the record 3+ billion barrels level we saw during most of 2016. IEA members hold an additional 1.6 billion barrels of strategic stocks, and the prompt response by the Agency to consider an emergency stocks release helped to calm markets. Commercial and strategic inventories go a long way to offsetting the lack of spare crude production capacity outside of Saudi Arabia, limited mainly to 1 mb/d in Iraq, UAE, Kuwait and Russia. We might have quickly returned to business as usual, but security of supply remains very relevant.

It comes a day after OPEC lowered both its demand and oil production outlook in its October monthly oil market report on Thursday in which it trimmed its forecast for world economic growth in 2020 to 3% from 3.1%, saying “it seems increasingly likely that the slowing growth momentum in the U.S. will carry over to 2020”.

U.S. oil products are very tight. Refiners are deep in maintenance and demand will rise as U.S. demand is strong. We think oil and products have bottomed and we are in a buying the breaks mode. Look to get hedged as seasonal lows are most likely in.

Have a great weekend!
Phil Flynn

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In case you missed it! Phil’s guest appearance on the McKeany-Flavell Hot Commodity Podcast last Friday, September 20th talking about current energy market dynamics. LISTEN HERE!