Cordros Research takes a look at the prevailing Brent price but maintains its forecast on average Brent price for this second quarter of 2020. Excepts
In our 2020 Mid-Year Outlook, we stated that although we expect a rebound in demand, as major economies emerge from lockdowns, we think this will be gradual and will likely not return to pre-COVID-19 levels before the end of 2021. On supply, we also stated that recent OPEC+ cuts might not be enough to offset returning (1) U.S. shale oil, (2) Libyan production, and (3) a still massive 1-billion-barrel overhang in global oil inventories, which we expect will only start shrinking in Q4-20 and the first quarter next year.
Amidst declining U.S. inventories and OPEC+ over-compliance, Brent oil surged 4.3% last week. However, the surge in coronavirus infections around the world, including in the U.S., makes the current recovery in the oil market fragile. Thus, we reiterate our view that the price of Brent crude oil is not likely to sustain above USD40.00/barrel in the short-medium term.
The Energy Information Administration (EIA) reported a stunning decline of 7.12 million barrels from U.S. crude oil inventories in the week ended 26 June – the first decline in a month (Figure 1), which was far higher than the 0.71 million barrels projected drawdown. The decline in U.S inventories was substantially higher than expected, thus implying greater demand, which led to bullish crude oil prices for the week –the price of Brent crude oil surged 4.3% and hit a four-month high in the week ended 3 July. Additionally, oil prices were helped by tighter supplies as the oil output from OPEC hit the lowest in two decades in June after Saudi Arabia and other Gulf Arab members made more extensive cuts than required. OPEC’s share of the cuts is 6.08mb/d, but according to a Reuters survey of supply to the market, in June, the cartel delivered 6.52mb/d of the pledged reduction, equal to c.107.0% compliance.
COVID-19’s Second Coming Could Derail Oil Prices
The accelerating spread of the COVID-19 virus across the United States is a significant headwind and threatens another downturn in oil prices. The U.S. is not alone as the virus continues to spread like wildfire across the globe, notably in Brazil, India, and even here in Nigeria. In our 2020 Mid-Year Outlook, we forecast a slight rebound in demand over the course of H2-20. However, a widespread “second wave” will mean another hit to crude oil demand, and poses a significant risk to our scenario of a steady tightening trajectory. We note that with a second wave, we are not likely to see demand destruction in the same way as when the first wave hit, as we expect that most governments will refrain from imposing strict and far-reaching lockdown measures, this time around. In our view, optimism about a steady improvement has driven markets over the last two months. Thus, a second wave poses serious risks, as an unexpected hit to demand could derail oil prices.
Sustainability of OPEC+ Agreement Called into Question
Any shock to demand will present quite a conundrum for an already stretched OPEC+. The one-month extension of the production cut agreement is slated to expire at the end of July, with the group signalling a desire to ease production cuts, from 9.70 mb/d to 7.70 mb/d, in August. That additional 2.0 mb/d worth of supply onto the market, as demand weakens, would be sub-optimal for crude prices. At the same time, producers are itching to reopen the taps, e.g. Angola is already resisting pressure by OPEC for a steeper oil output cut to comply fully with record supply curbs. As we highlighted in our Mid-Year Outlook, OPEC+ still has massive storage buildups – which we only expect to begin to fall in Q4 – to combat. In our view, a “second wave” will lead to further increases in inventories. Without the ability to drain them, combined with a widening divergence between supply and demand, we reiterate that there is little room for oil prices to rise.
“Brent oil price is up only 1.00% to USD43.23/bbl, at the time of writing, as Saudi Arabia hiked its official selling prices to Asia, Europe and the US. We look to the EIA report this week, which should provide a better picture of the impact of tighter restrictions across several states on oil demand. Our forecast for average Brent crude price in H2-20 remains unchanged at USD35.00/ bbl”, stated the research group