OILX - Why Oil's Outlook Could Still Be Bullish Despite Recent Weakness
2023-07-04 21:23:00 ET
Summary
- Why oil prices are down despite supply concerns.
- China's economic troubles continue to undermine commodities.
- Why oil hasn't climbed on the back of geopolitical risks.
Oil prices have been on a downward path in recent months as concerns about demand outweigh any potential shortfalls in supply. Bart Melek, Global Head of Commodity Strategy at TD Securities, tells Greg Bonnell why the price of crude is still likely to go up in the long term.
Greg Bonnell: Crude prices have been on a downward path in recent months, despite supply concerns and geopolitical instability. It does appear the global economic outlook is weighing on oil, but are traders being too pessimistic? Joining us now, Bart Melek, Global Head of Commodity Strategy at TD Securities. Bart, always great to have you here.
Bart Melek: Great to be here. Thank you for inviting me again.
Greg Bonnell: On my screen, I'm looking at crude oil American benchmarks shy of 70 bucks. It is down so far this year, I believe down for the quarter as well. What is going on here? Bart Melek: Well, I think the big concern traders have is that China has been underperforming expectations. When a few months ago, we thought that China was going to reopen, there's going to be a huge surge in demand, and that was going to tighten up markets. We thought that maybe a slowdown is going to materialize to the extent we think now, and we thought that cuts from OPEC that were proposed were going to help to tighten that market up.So we were looking at very strong demand, limited supply, tight markets, and higher prices. Well, that didn't materialize so far, and traders who were long have decided maybe to take profits or get out of their positions. The concern is, of course, that we are headed for recession in the Western world. That implies somewhat slower growth. And of course, there continues to be a problem in Chinese growth.Now, taking that all aside, we still believe that with previous OPEC cuts that were announced back in April and the more recent one that we'll see a million barrels of production cuts from Saudi Arabia and probably continued spotty performance from Iran, which recently had a bit of an increase in exports. We still think we're going to get deficits in the latter part of the year because of the cuts.And yes, Chinese growth probably is a little weaker than we would have hoped. But in the final analysis, as we rebound from COVID, everything from air travel to other fuels and even industrial demand in that part of the world will contribute to a pretty robust increase. And indeed, when we look at demand growth for 2023, we're still looking north of two million barrels per day, and we continue to expect OPEC plus to be fairly well-disciplined on the supply side.So to your question-- Greg Bonnell: Do you think this point OPEC has done enough to cut the supply side? Bart Melek: I think they probably have. I'm not sure they're convincing all the traders at this stage. But I think some of them might have gone a little bit too bearish on oil, and we do expect crude to rebound in the second half of the year we think approaching $90 probably not unreasonable in the next six months or so as the worst of the fears about a recession moderate and as the Federal Reserve pivots towards the dovish side.But of course, that is not what's happening right now. If anything, the pivot seems to be to even a more hawkish policy by the Federal Reserve. We continue to hear Jerome Powell pound on those hawkish drums, and the market is starting to reconsider its position that it had a few months ago, that perhaps the FOMC is not kidding when they say that two more hikes are quite possible by the end of the year.And when we look at data, you know, today is a case in point with upward revisions to GDP with a bit of a reversal in unemployment claims in the high frequency weekly data. And the conclusion is that it is quite possible that the Federal Reserve could lift rates higher. And certainly, there is a distinct possibility that higher levels could be around for longer than I think many had hoped. And hence a lot of risk assets on the commodity side have been trading lower. Greg Bonnell: I feel like over a large part of my career tracking all this kind of stuff and talking to very smart people, if there was a big geopolitical event, the first thing I would look to is oil or gold to try to figure out what's the market reaction. We had pretty dramatic events over the course of a span of a weekend in Russia. And by the time I came back to work on Monday morning, it was like nothing had happened almost, at least from the oil markets point. Bart Melek: Well, yes, certainly we had that interesting march on Moscow from a mercenary group in Russia. Of course, Russia is a key global producer. Typically, you would expect some sort of volatility, some sort of angst in the market. You would tend to maybe position in gold. You would worry maybe about oil markets not supplying enough material, or conversely the reverse.But either way, you would expect some sort of risk. And at the end within a day, it was all over, and the market looked at it with a big yawn, and no one cared. But even with geopolitical events for gold, for example, it really doesn't matter for a long term. What really, really matters if these geopolitical events will have a long-lasting impact on the global economy or the core performance of economies around the world.And if that's not the case, then it's probably unlikely that policy will change. And these markets and gold in particular tend to respond to policy and underlying supply demand trends. And if a political event doesn't change that, then there's really no need to react for a longer term. And that holds true for oil as well.So the market decided that this was a non-event in terms of an impact on the global economy broadly and oil supplies. And therefore, they looked at it, saw it, and didn't worry about it. Greg Bonnell: That's important perspective. Of course, for the longer term if it actually matters in the longer term. When it comes to oil as well, I've been reading conflicting headlines lately, the International Energy Agency feeling that you reached peak oil at some point before demand starts dropping off, but OPEC plus seems to be singing a different tune. When they come in, they say no, no, no, no, it's going to be growing demand for oil for years and years and years to come. If we pull back the lens realistically, what do we think in the near, medium, and far term about oil and its place in the economy? Bart Melek: Well, look, it's always tough to put a pin in it and be accurate. I think beyond a few years' time, it's very difficult to forecast. But we have a view over the next two years. We think this year oil demand moves up 2 million barrels for the next three or so years, probably north of a million barrels a bit increase. So that's a net increase.Medium term, probably those rates of growth moderate as the world continues to move to EVs, and they take an increasing share of the transportation sector. But we have some pretty significant limits on the grid, on the power generation side, on critical minerals side. So perhaps the transformation, or the transition towards EVs and carbon-free sources of energy may not be as quick as people had hoped.And if that is the case, if we don't have enough copper, zinc, you know, lithium, and other cobalt, nickel, all the minerals that go into EVs, silver for that matter as well, if the investment there isn't as robust as it needs to be to achieve those Paris Accord targets, then maybe oil sticks around for a lot longer on the positive growth path than people think.The very long term, yes, I think it's very true. We probably will start seeing oil drop lower. We'll transition into primarily electrically driven vehicles, and the need for hydrocarbons is going to diminish. But is that 5 years away, 20 years away? I think it's a tough call, and I think we're going to have to follow critical minerals and where investment is going from governments and private industry to facilitate these changes. But I think it's murky at this point.
For further details see:
Why Oil's Outlook Could Still Be Bullish, Despite Recent Weakness