Oil market is ripe for correction; Opec, IEA and EIA reports eyed

By Navneet Damani

Oil ended in the same range where it started at the beginning of the week due to a combination of bullish and bearish news that drove markets for much of the previous week.

The news of the US asking Opec to increase oil output by 1 million barrel per day (mbd) in the second half of 2018 and rising US oil output put downward pressure on prices. Conversely, prices were supported by collapsing production from Venezuela and anticipated resistance from other Opec members to increase production at the June 22 meeting in Vienna in Austria.

Oil prices have been on the backfoot recently on concerns that Opec and non-Opec members led by Russia would decide to lift output by up to 1 mbd as early as this month in response to lost supplies from Venezuela and Iran.

Prices traded lower after data from EIA showed US crude oil stockpiles rose unexpectedly last week even as refineries hiked output to the highest in five months. Gasoline stocks went up sharply as demand eased.

Crude inventories rose by 2.1 million barrels in the week to June 1, compared with expectations of a decrease of 1.8 million barrels. The bulk of that build was due to a steep increase in stocks on the West Coast, where inventories jumped 2.5 million barrels.

Refining crude runs and rates hit their highest levels since late December as facilities came back online after periods of maintenance. Refinery crude runs rose 214,000 barrels per day to 17.4 million bpd and utilisation rates rose by 1.5 percentage points to 95.4 per cent of available capacity.

Gasoline stocks firmed up by 4.6 mb, compared with expectations of a gain of 5,87,000 barrel. Distillate stockpiles expanded by 2.2 mb against a projection of a 7,84,000-barrel increase. Net US crude import rose last week by 1.2 million bpd. Crude stocks at the Cushing, Oklahoma, and delivery hub fell by 9,55,000 barrels.

Meanwhile, the bullish factor that kept crude prices supported was the Venezuela crisis, where it struggled with huge oil inventory backlog. Venezuela might have to declare force majeure on its oil exports as production plunges and its ports are unable to ship enough crude.

The ongoing meltdown in Venezuela’s oil sector could tighten the oil market more than expected. Venezuela is nearly a month behind delivering crude to customers from its main oil export terminals, according to shipping data, as chronic delays and production declines could breach state-run PDVSA’s supply contracts if they are not cleared soon.

Tankers waiting to load more than 24 million barrels of crude are sitting off the country’s main oil port. The backlog is so severe that the company has told some customers that it may declare force majeure, allowing it to temporarily halt contracts, if they do not accept new delivery terms.

Meanwhile, the intention of Russia and other Opec countries to raise Opec and non-Opec oil production by some 1 mbd, which will ease 17 months of strict supply curbs to offset losses from Venezuela and Iran, is keeping pressure on crude oil prices.

On the flip side, sanctions imposed by President Donald Trump on Iran has created deficit in the market and has been one of major reasons for the price rally. The supply can see a reduction of 3,00,000-5,00,000 bpd. Exports from the country were expected to drop by maximum of 7,00,000 bpd by the first half of 2019. The nation currently produces 3.8 million bpd.

Although Iran may find other buyers for its crude and sanctions don’t go into effect for 180 days, companies have started curtailing shipping driven by insurance availability, which had a significant impact when sanctions were in effect previously.

So, even if Iran finds willing buyers, transporting the oil may be problematic. Along with that, continuous losses from Venezuela are helping prices. Venezuela’s oil production sits at nearly 1.4 million bd, with estimates showing a further drop to around 750k bd to 1.3 million bd.

Meanwhile, US drillers added one oil rig last week, bringing the total count to 862, the highest number reported since March 2015. Domestic oil production is at an all-time high of 10.8 million bpd. Only Russia currently produces more, at around 11.1 million bpd.

For Opec, the next move will be to consider returning to a compliance ratio of 100 per cent of the agreed production cuts of 1.8 million barrels per day in 2016. The compliance with agreed reduction has reached 172 per cent and any reduction will translate into a drop of 3.1 mbd.

Opec crude output in May slid for the fourth straight month to 31.90 mbd, the lowest in over a year. Outages due to the troubles in Nigeria and Venezuela’s oil industries more than offset higher output from Saudi Arabia, Iraq and Algeria as May production fell 1,00,000 bd from the previous month.

Opec output was last lower in April 2017 at 31.85 mbd, the last month before West African producer Equatorial Guinea became its newest member.

For natural gas, it moved in a higher range for much of the week, underpinned by weather forecasts of hot temperatures.

The intermediate-term outlook for market is bullish because of concerns over current supply deficit carrying over into summer season. Short-term, however, the market may be ripe for correction due to slight change in the weather forecast, along with some profit taking of the recent rally.

Markets will be waiting for meeting between Opec and non-Opec producers, which is touted as key to outlook for crude oil prices. They will meet in June to assess market conditions to discuss tapering of production curtailments in order to maintain market balance now that global oil inventories have declined to the five-year average. This week will be a busy one for oil traders and investors who are anticipating reports from Opec, IEA and EIA.

(Navneet Damani is AVP Research at Motilal Oswal Commodities)