US move on Iran sanctions a key decider of oil’s fate

By Navneet Damani

Oil prices have been rallying for much of April and closed the week near three-year highs as ongoing OPEC-led supply cuts and strong demand gradually drain out excess supplies. Meanwhile, attack on an oil pipeline supplying Libya’s biggest export terminal reduced the country’s production by at least 80,000 barrels a day and would take several days to repair, which will be supportive of crude oil prices.

The prices rallied solely on geopolitical premium and fears of supply disruptions, especially in the Middle East. Data from EIA showed US crude storage draw of 1.07 million bbl as against our forecast of 3.6 million bbl. The report was overall very bullish with total liquid stockpile draw of 10.57 million bbl versus the 5-year average of a build of 4.83 million bbl. By May, oil storage decline will start to accelerate and global oil storage will accelerate to the downside into the year-end.

The lower than expected draw came from a combination of higher than expected crude imports and higher than forecast US oil production. But not only did US crude storage decline, gasoline, distillate and total liquid stockpile saw sizable drop week on week (WoW). Gasoline supplies reached a record of 9.86 million bbl, and yet storage declined 2.96 million bbl, indicating that gasoline demand for the year reached an all-time high.

Distillate storage also saw a significant fall WoW, coming in lower by 3.107 million bbl versus the 5-year average draw of 481k bbl. Total liquid stockpile declined 10.57 million bbl versus the 5-year average build of 4.83 million bbl. Total liquid stockpile is now below the 5-year average. Refinery throughput this week came in lower WoW by 70k b/d, but higher than our forecast of 16.9 million b/d. We expect refinery throughput to start rebounding next week and increase materially into May.

Crude imports declined by 720k b/d this week to 7.93 million b/d. But overall imports remain higher than our projection coming in ~330k b/d higher than our preliminary figures. Crude exports came in 544k b/d higher WoW to 1.74 million b/d, and crude exports should remain elevated for the rest of the year.

Meanwhile, US drillers added five oil rigs drilling for new production in the week ending April 20, bringing the total count to 820, the highest since March 2015. The rising rig count points to further increases in US crude production, which has already jumped by a quarter since mid-2016 to a record 10.54 million bpd. That was the highest number since March 2015, underscoring worries about rising US output.

Members of the joint the OPEC and non-OPEC ministerial monitoring committee held a meeting in Saudi Arabia, where they confirmed that compliance with a deal to cut output is at its highest ever, further stoking expectations for market rebalancing later this year. OPEC will meet in June to decide whether to extend the production-cut agreement. Saudi Arabia, OPEC’s de-facto leader, has indicated that the participants could continue to hold back output into the next year despite evidence that the glut in global supplies has shrunk to levels just above the oil cartel’s target.

Speculations of Russia opting out of the deal turned bearish for crude. Meanwhile, news that group of producers around the OPEC as well as Russia may this year ease output restrictions will be negative for crude oil prices. Meanwhile, the main contributor to market was US President’s tweet in which he blamed the OPEC for high oil prices, perhaps noticing that the price of gasoline has been going up as the summer driving season approaches. The US Department of Energy expects gas prices to rise 33 cents a gallon by summer up to $ 2.74 as the national average between April and September. We need to check if Trump takes any drastic steps against Saudi Arabia for increase in crude oil prices.

Behind the scenes, Saudi officials are eyeing $ 100 per barrel as a goal, which would help plug a chronic fiscal deficit, but more importantly, it would inflate the value of Saudi Aramco ahead of the company’s IPO next year. Hedge funds investing in oil are luring capital at the fastest pace in more than a year. Investors allocated $ 3 billion to commodity-focused hedge funds from January through March, the most since the third quarter of 2016.

Meanwhile, oil market participants will be intently watching the Trump administration over the next month. May 12 is deadline for the US President to decide to waive sanctions on Iran as part of the nuclear deal that global powers reached with Iran in 2015, allowing Tehran to resume oil exports and regain part of its market share. One thing is certain about possible Iranian sanctions — their impact on Iran’s oil exports and the global oil markets is highly uncertain and will keep the market on edge.

The US oil market surplus is gone with the total liquid stockpile falling below the 5-year average. While there is still room for storage to fall further, we know based on our current projections that the storage balances for the rest of 2018 will remain in deficit inducing more storage drawdowns.

As the global oil markets show a deficit going forward, we believe it will translate into higher oil prices barring no geopolitical disruptions. The fundamentals are mostly bullish at this time. Ongoing OPEC-led supply cuts are proving the longer-term support. This is leading to tightness in crude oil market that could spread to products like gasoline and distillates. Speculative support is coming from the possible reimposition of sanctions against Iran that should lead to a cut in supply. Venezuela is experiencing huge problems that could also lead to diminished supply.

One factor that could limit gains is rising US production, which has jumped by a quarter since mid-2016 to 10.54 million barrels per day. Look for US production to continue to rise since the rig count, which rose last week, is expected to get higher along with prices.

In the week ahead, oil traders will await fresh data on US commercial crude inventories on Tuesday and Wednesday to gauge the strength of demand in the world’s largest oil consumer and how fast output levels will continue to rise. Comments from global oil producers for additional signals on whether they plan to extend their current production-cut agreement into next year will also remain on the forefront. Geopolitics will also likely keep investors on their toes this week.

(Navneet Damani is AVP Research at Motilal Oswal Commodities. Views expressed in this article are author’s own and do not represent those of