Oil prices are retreating as the market fears that recession fears are rising, says Phil Flynn of the PRICE Futures Group.
The Wall Street Journal reported that, “Economists see a growing risk of recession as the relentlessly strong US economy whips up inflation, likely bringing a heavy-handed response from the Federal Reserve." Economists surveyed by The Wall Street Journal this month on average put the probability of the economy being in a recession sometime in the next 12 months at 28%, up from 18% in January, and just 13% a year ago.
Bloomberg News reports that, “The relentless rise in US Treasury yields continued to send waves through global markets Monday, at the start of a key week for inflation watchers. Ten-year yields climbed through 2.75% for the first time since March 2019 as investors priced in the impact of the Federal Reserve’s tightening plan and accelerating inflation. The move pushed the greenback higher, the yen through the 125 per dollar level, and erased the more than decade-long premium benchmark Chinese bonds held over their US counterparts. Most stocks fell.
Crude Oil (CL=F) prices are feeling the weight of these recession fears as well as the release from global strategic reserves. Yet while the oil reserve releases may give some short-term relief, the global cushion against the next oil shock is going to be like knees without cartilage. Not only will we draw strategic reserves down to the lowest level since the 1980’s, we also have more concerns about global spare production capacity. Reuters reports that, ”Analysts say that Saudi Arabia and the United Arab Emirates are among the few oil producers globally with the spare capacity they could draw on quickly to increase output, help offset supply losses from Russia or elsewhere, and ease prices.
According to the International Energy Agency, the two Gulf OPEC producers hold about 1.8 million barrels per day of “short-order” spare capacity, equal to almost 2% of world demand and almost all the total 2.2 million bpd of such capacity available. That is not that much. Brynne Kelly wrote that, “The International Energy Agency announced last week that member states have agreed to a coordinated release of 120 million barrels of crude oil over the next six months beginning in May." In total, combined with continued monthly production increases from OPEC+ countries, we would see 1.0 million bpd of oil per month of additional supply.
One could say releasing inventory now is in anticipation of the inevitable problems Russia will face bringing its oil to market amidst sanctions. It is believed that Russia could soon be forced to curtail crude oil production by 30% (or ~three million bpd), subjecting the global economy to the biggest supply crisis in decades. Yet, Russian oil is still making its way to the market due to severe price discounts being offered and the inability of European countries to halt purchases from Russia immediately as they have no viable alternative at the moment; making the recent inventory releases look like a chess move to reduce oil prices.
Pondering a silly question: What if Russian oil isn’t fully banned from reaching the market until after all of the recent SPR inventories have been released? For now, the additional inventory is seen as nothing more than weakening the front of the market relative to the back when reserves will need to be replaced.
The Wall Street Journal writes that “US President Joe Biden will hold a virtual meeting with Indian Prime Minister Narendra Modi on Monday, the White House said, at a time when the United States has made it clear it does not want to see an uptick in Russian energy imports by India. “The Journal also reports that in the EU: any swift decisions on oil sanctions face major political obstacles.
With EU member states split on the issue, Brussels officials say there will be no decisions on Monday and that even the presentation of specific proposals could be weeks away.
Natural gas is still getting a lift from either, as well as the push for the US to export more LNG from Europe. John Kemp of Reuters wrote that, “US gas prices have climbed to their highest level in more than a decade as strong demand from overseas has emptied storage and left inventories well below average for the time of year, despite a mild winter. Front-month futures for gas delivered at Henry Hub in Louisiana have risen to $6.40 per million British thermal units, the highest in real terms since 2010."
Wholesale prices in the United States are still far below those prevailing in Northeast Asia ($33 per million British thermal units) and Northwest Europe ($34). Full price convergence is prevented by the limited liquefaction capacity for exports from the United States, and regasification capacity for imports into Asia and Europe. But shortages in other regions and fears of an interruption of supplies from Russia are pulling US prices higher via increased demand and prices for LNG.
US LNG exports rose 13% in the three months from November to January compared with the same period a year earlier, while gas production was up by less than 5%. As a result, LNG exports accounted for 12% of domestic dry gas production in January 2022, up from 8% in January 2020, and 3% in January 2018. Exports are likely to have accelerated even further in February and March after Russia’s invasion of Ukraine sent gas prices surging in Europe. US prices are still largely isolated from the rest of the world, but growing LNG exports are gradually forging closer links with Europe and Asia.
US gas inventories ended the winter at just 1,382 billion cubic feet on April first, the lowest for the time of year since 2019 and before 2014. Working stocks in underground storage were 316 billion cubic feet (19%) below the pre-pandemic five-year seasonal average for 2015-2019.
Because of strong exports, inventories depleted more than usual despite high prices and winter heating demand that was 8% below the long-term average. Reflecting the low level of stocks, futures prices have moved into a strong backwardation, with nearby prices rising to reduce consumption and exports, and encourage more production.
Increased drilling should keep output growing through the end of the year and into 2023, which will be needed as demand for LNG remains high as buyers in Europe and Asia scramble to replace gas from Russia.
Weakness today should be bought. We should set a bottom this week.
Learn more about Phil Flynn by visiting Price Futures Group.
