Oil gains on OPEC+ conservatism, demand recovery and Iran negotiations lag

Looking at Brent galloping close to $71 is a development that satisfies the most bullish of traders, especially as we are still in the demand recovery process.

However, bullish over-confidence of a tight oil market could be a bit premature, as the jury is still very much out on just how fast oil demand will recover.

The prevailing market expectation is that oil consumption will outpace supply by summer, but the demand euphoria is still receiving daily doses of reality as Covid-19 cases are boundlessly spreading in India and other parts of Asia.

Partial lockdowns are in place through June in key economies such as Malaysia, Indonesia, the Philippines, Thailand, Vietnam, Japan.

Also let’s not forget that if we have a breakthrough soon on the negotiating table and Iran opens its export tap, traders will have to retract some of their oil pricing, so the duration of this week’s gains could have an expiry date, which is for the moment uncertain.

Back to OPEC+, in deciding not to adjust up its supply plan, the alliance may be flying a bit too close to the sun, and the risk that oil consumption returns faster than supply in the short-term is becoming a more salient risk. 

The most memorable soundbite from the OPEC+ meeting was not about the present oil market risks, but future. The Saudi oil minister’s labeling of the IEA net-zero ambitions as a ‘La La Land sequel’ raises many important questions on how OPEC+ will regulate supply after the current deal ends in April 2022.

Excluding recessionary periods, the decline in oil consumption is new and unexplored territory in energy markets and striking a perfect supply-demand balance will become even more difficult as oil substitution technology, primarily electric vehicles, takes a more commanding role in the market.

The shift towards the energy transition has already forced several traditional oil and gas producers to cut upstream capex, and now the primary question is if they are cutting too much too prematurely, and if this will cause a massive supply shock down the road.

In the brave new energy transition world, we may see price cycles in the future we have never seen in the past, but the surplus of global readily available economical oil volumes, especially spare capacity from OPEC+ heavyweights like Saudi Arabia, Iraq, Kuwait, etc., will step in to fill the supply gap.

A theoretical “more demand than supply” scenario would also incentivize short-cycle and private players, primarily in shale and onshore conventional plays, to beef up production in any theoretical oil super-cycle scenario.

Thus, we do not foresee a probabilistic scenario in which liquids supply drops faster than demand for a long or sustained period of time.