Today's edition of the Saxo Morning Call features the SaxoStrats team discussing the continuing weakness of the US dollar as commodity prices recover ground and in the wake of key US equity indices hitting all-time highs Thursday.
Article / 01 November 2017 at 11:02 GMT

Oil riding a wave of price-supportive news and data

Head of Commodity Strategy / Saxo Bank
  • Few worries for oil bulls at the moment
  • Opec is fulfilling its output cut pledges
  • US production growth looks overstated

oil bull
 Current news and data make happy reading for the bulls. Images: Shutterstock

By Ole Hansen

Crude oil continues its ascent with recent news and data on growth, supply and demand all giving the bulls with little to worry about. Opec supports the rebalancing process by maintaining high compliance to its production cuts while US production growth looks overstated at a time of falling inventories.

Brent crude trades above $60 for a fourth day, thereby further extending  the gains seen since the June low at $44.35/barrel. WTI crude oil is now testing the January high at $55.25/b as it continues to trail Brent by a discount of more than six dollars.

WTI crude oil challenging the January high at $55.25/b
WTI crude oil, first month cont.
 Source: Saxo Bank

Opec and Russian production cuts, combined with strong demand and supply disruptions in the US and Northern Iraq, have supported the improved fundamentals. These have become increasingly visible when looking at the shape of the oil forward curves. Not least Brent crude oil has benefited from these developments and as a result the forward curve is showing a strong backwardation with the prompt month offering the highest price on the curve. 

Backwardation attracts investors as it helps provide a positive monthly carry on a long position. This is the main reason why funds during the past few months have rushed into Brent crude at a stronger pace than WTI crude. The year-to-date return on the Bloomberg Brent crude oil index is 4.2% while WTI is trailing at minus 4%. 

Crude oil index returns
Improved crude oil fundamentals have resulted in a rush of investment demand especially for Brent crude. The total net long reached 752,000 lots (752 million barrels) in the week to October 24 with Brent crude accounting for almost two-thirds of this position. 

Speculative positioning in Crude oil

One of the key arguments for oil not being sustainable above $60 has been the outlook for a strong production response from non-Opec producers. Not least in the US where shale oil producers' ability to increase production very much depends on the forward price of oil. 

As part of its "Weekly Petroleum Status Report" the US Energy Information Administration also provides a weekly estimate on crude oil production. With a two-month delay they publish a more accurate update in their EIA-914 monthly production report. During most of 2017 a gap has opened up which could indicate that the weekly data has increasingly been overstating US oil production. For August the end of month gap exceeded 300,000 barrels per day and this development has together with lower net imports helped support an unseasonable reduction in US crude stocks. 

US oil and fuel stocks

This development clearly shows US shale oil producers' dependence on higher oil prices in order to fulfill their potential of increasing production. Opec and Russia know that, and apart from a surprise drop in global demand growth, the route to a successful and sustainable price depends on limiting price-dependent producers' ability to increase production. A 2018 average price for WTI above $54/b, up almost ten dollars from the June low should be enough to support a robust pick-up in US production over the coming months.

US oil production
During the past few months traders have almost come to the conclusion that Saudi Arabia once again is providing the market with a free put, i.e. they will do almost anything to support the price of oil. Both in order to attract the highest possible valuation for the Aramco IPO and also considering their budget, according to the IMF, they require a price of $70/b in order to break even. 

This is a potential false sense of security as seen when Al Naimi, the Saudi oil minister, back in 2014 pulled the rug out from underneath the market when he stepped away from supporting oil above $90/b. 

Having reached $60 we have also reached a level which many producers would consider satisfactory, not least considering the potential negative impact of non-Opec producers being able to accelerate output. On that basis we view the current level as being to the higher end of the range. Momentum can easily drive a market beyond what is fundamentally justified and a continued rally above $60 would in our view represent such a development.

Later today at 14:30 GMT (one hour earlier than normal for those of you outside the US) the EIA will release its weekly stock report. API last night surprised the market with bigger-than-expected cuts in oil and fuel stocks. Other data to focus on will be refinery activity as well as import/export levels. 

EIA survey and recent results

– Edited by Clare MacCarthy


Ole Hansen is head of commodity strategy at Saxo Bank

Ole Hansen Ole Hansen
The Fracking Boom’s Midlife Crisis. Bloomberg seeking answers to this question: With much of the easy oil already pumped, what’s next for shale?
Ole Hansen Ole Hansen
Oil and fuel stocks all dropped by less than what the API report had led us to believe. US net import of crude oil dropped to a new low as export jumped to 2.1M b/d, a new record. Refinery demand was flat. On balance a slightly bearish report given the heightened expectations.
Ole Hansen Ole Hansen
EIA report in charts


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