Article / 10 August 2016 at 13:34 GMT

Crude oil torn as short- and long-term conflict collides

Head of Commodity Strategy / Saxo Bank
  • Crude oil struggling to pick up on dollar-weakness led rally
  • EIA, Opec reports anticipate oversupply to continue well into 2017
  • Brent likely stuck in a $45-50/b range to year-end
  • Short-term view predicated on oversupply, long term view on likely supply deficit
  • EIA weekly inventory stocks report due at 1430 GMT

 Oil is struggling to rally, despite the weak dollar. Photo: iStock

By Ole Hansen

Contrary to other commodities, oil has so far today struggled to rally despite the tailwind being created by the weaker dollar. Nervousness ahead of today's inventory report combined with news about rising production from Opec rivals Saudi Arabia and Iran have all helped to fade the week-long rally.

The EIA in its monthly 'Short-Term Energy Outlook' for July continues to see the global oil market being oversupplied deep into 2017. In their update they also raised US average production for 2017 by 100,000 barrels/day to 8.3 million, still some 400,000 b/d below 2016. 

EIA supply and demand forecast
Opec in its monthly report released earlier today also saw the rebalancing of world markets being delayed. Instead of a small average deficit for 2017 in the previous report, it now expects the global oil market will see a 100,000 b/d average surplus. 

These developments add to the concerns that current high inventories of both oil and products will take longer to reduce back to longer-term averages. Refineries have, to put it simply for a while now, been producing more products than global consumers have been asking for. With the end of the driving season upon us, some additional pressure could arise from this overproduction during the coming weeks. 

As per the below table, we find that Brent crude and also WTI crude for that matter have yielded a negative September return for the past five years. Even during the boom years of 2011-14, oil struggled during this month. 

Brent Crude Oil seasonality

Source: Bloomberg

With this in mind, hedge funds had up until the week ending August 2 been net sellers of oil for several weeks. So much so that the gross short in WTI crude oil (Nymex only) last week reached a new record with the last one seen during the January selloff. Such an elevated short position established within a few short weeks helped trigger the rally during the past week. 

However what is also interesting to see is the stubborn attitude among those holding long positions. The price weakness seen this past month has attracted new buyers with the gross-long (blue line) rising during this time.

Speculative positioning in Crude oil
These developments highlight the continued battle between those holding short- and long-term views on the market. Once the glut begins to fade, investors will turn their attention to the billions of dollars in lost investments having been removed during the past two years.

These combined with continued rise in demand will eventually create the need for higher prices in order to incentivise new production, both from traditional and untraditional production techniques.

Today's inventory report from the EIA, due at 1430 GMT will as usual be watched closely, not least considering the exit of the driving season and the impact this will have on inventory developments. The often unreliable report from the American Petroleum Institute released yesterday showed a surprise rise in oil inventories of 2 million barrels.

A Bloomberg survey ahead of todays official report point to a fall of around 1.5 million barrels with gasoline inventories also expected to show a drop. 

EIA inventories

Production estimates in the latest report showed a 55,000 b/d drop following three consecutive weekly gains. The drop was primarily due to lower supply from Alaska with production from the lower 48 states — primarily shale oil — holding steady for the first time since January. 

EIA production estimates
The overhang of supply of both oil and products is yet to show signs of being reduced and the current expectations of higher prices have once again being delayed. We maintain our Q3 call for Brent crude in a $45-50/b range with the risk being skewed to the downside. An end-of-year price much higher than $50/b will be hard to achieve with the recovery likely having been delayed well into 2017.

WTI crude oil found support last week after correcting 50% of the rally from February. Should inventories of both crude oil and gasoline fall, we could see the price higher as it plays catch-up with the weaker dollar seen during the past 24 hours. 

WTI crude oil, first month cont.
Source: SaxoTraderGO 

Calendar link here

— Edited by Martin O'Rourke

Ole Hansen is head of commodities strategy at Saxo Bank
Ole Hansen Ole Hansen
Crude oil inventories rose by 1M bbl against an expected decline. Off-setting this was a bigger than expected decline in both gasoline and distillates. Production was est. to have fallen for a second week by 15k bbls. Results and initial market reaction below
Ole Hansen Ole Hansen
Cat Cat
Great article.
Ole Hansen Ole Hansen
Thank you Cat


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