Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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Crude oil stuck as focus alternates between demand and supply concerns
Ole Hansen
Head of Commodity Strategy
Summary: The crude oil market, in a downtrend since October, is showing signs of settling into a relatively narrow range - in Brent between $75 and $80 - as the tug-of-war between demand and supply concerns continue to create choppy but overall directionless price action. Overall, we see an increased likelihood of this rangebound trading behaviour continuing in the coming months with no single trigger being strong enough to change the dynamics of a market that has divided its focus between growth worries, not least in China and the USA, as well as rising non-OPEC+ production on one hand and OPEC+ cuts and geopolitical risks on the other.
Key points
- Demand and supply concerns continue to create choppy but overall directionless price action
- Speculators start the year with the weakest belief in higher crude prices in recent momory
- Rangebound price action seen during Q1 with an upside break the biggest risk
The crude oil market, in a downtrend since October, is showing signs of settling into a relatively narrow range - in Brent between $75 and $80 - as the tug-of-war between demand and supply concerns continue to create choppy but overall directionless price action. It is also worth noting that the first few weeks of new trading year often produces this kind of price action with traders trying to jump onto low conviction moves for fear of missing out should they develop to something bigger.
The first week of trading saw several failed rallies in response to concerns about Middle East stability as Houthis continue to attack ships in the Red Sea. However, while supply disruptions are still an unrealised threat, the physical market is showing signs of actual weakness, basically reducing the geopolitical risk impact. Markets fell on Monday after Saudi Aramco lowered the premium it charges customers above regional benchmark prices by $2 per barrel to just $1.5 per barrel, the lowest level since November 2021, and it follows a weakening of spot differentials for Middle Eastern crudes due to weak China demand and rising supply from non-OPEC producers.
The EIA in their latest Short-term energy outlook, released on January 9, wrote the following about global oil production and consumption: “Global liquid fuels production increases by 0.6 million b/d in 2024, down from an increase of 1.7 million b/d in 2023. Global liquid fuels production growth in our forecast slows in 2024 because of both OPEC+ production cuts and slowing non-OPEC growth. OPEC+ crude oil production declines by 0.6 million b/d in our forecast for 2024, which is offset by 1.2 million b/d of production growth outside of the group. Growth is lower in 2024 compared with 2023 in large part because of slowing supply growth from the United States, Canada, and Brazil. Supply growth in Guyana accelerates this year in our forecast.”
The 25-dollar slump in global oil prices since the early October high above $95 in Brent helped drive a significant reduction in bullish bets held by hedge funds and CTAs in the futures market from 560,000 contracts (560 million barrels) to a December low at 171,000 contracts, before Red Sea worries helped drive a recovery to 259,000 on January 2. As per the chart below, we find that speculators have not in recent memory started a year with such a low belief in higher prices with the weak positioning primarily being driven by an elevated gross short at 204,611 contracts, the highest since 2016.
Speculators will continue to play a key role in setting highs and lows in the market. These often momentum following trading strategies tends to anticipate, accelerate, and amplify price changes that have been set in motion by fundamentals. However, being followers of momentum, this strategy often sees this group of traders buy into strength and sell into weakness, meaning that they are often found holding the biggest long near the peak of a cycle or the biggest short position ahead of a through in the market.
The low positioning highlights an energy sector which, given the right circumstances, may rebound in 2024 once the technical and/or fundamental outlook becomes more supportive, thereby leading to fresh buying and short covering. In the short-term however the fundamental outlook does not look strong enough to trigger such a recovery.
Later today the EIA will release its weekly crude and fuel stock report and surveys put expectations in line with seasonal developments with falling crude oil stocks amid strong exports and robust refinery demand driving a rise in fuel stocks, not least after the latest report showed the biggest one-week combined increase in gasoline and distallate stocks in data going back to 1990. As per usual, the market will also be watching implied demand after the latest report showed diesel demand falling to the lowest level since 1999 while gasoline demand tumbled to lowest in a year.
We see an increased likelihood of crude oil staying rangebound in the coming months with no single trigger being strong enough to change the dynamics of a market that has divided its focus between growth worries, not least in China and the USA, as well as rising non-OPEC+ production on one hand and OPEC+ cuts and geopolitical risks on the other. On top of this we may see risk appetite ebb and flow in line with changes in the expected pace of US rate cuts.
With that in mind, we see Brent crude oil remain rangebound around $80 per barrel during the first quarter with the very weak positioning, OPEC+ production restraint, and incoming rate cuts potentially leaving the risk/reward skewed slightly to the upside. The biggest downside risk being a disunited OPEC+ leading to a collapse in the current agreement to keep production down, and the upside from a major geopolitical event disrupting the flow of crude oil and gas from the Middle East.
Commodity articles:
9 Jan 2024: Q1 Outlook – Year of the metals
5 Jan 2024: Commodity weekly: Bumpy start to 2024
4 Jan 2024: What to watch in crude oil as 2024 gets underway
4 Jan 2024: Podcast: Crude oil and gold in focus as a new year begins
21 Dec 2023: Weather, rates and unrest paint muddy picture for commodities in 2023
19 Dec 2023: Crude and gas pop on Red Sea Disruption Risks
14 Dec 2023: Fed's dovish tilt adds fresh fuel to precious metals
13 Dec 2023: Video - Why gold may enjoy a Santa rally for the 7th year in a row
12 Dec 2023: Video - Investing in Uranium
1 Dec 2023: Commodity weekly: Tight supply risks boost copper; OPEC+ struggles to control crude
30 Nov 2023: Precious metals take top spot for a second month
23 Nov 2023: A nervous crude oil market awaits OPEC's next move
23 Nov 2023: Podcast: Will Santa deliver another golden gift
22 Nov 2023: Will gold and silver see another Santa rally?
17 Nov 2023: Commodity weekly: Crude overshoots; silver the comeback kid
16 Nov 2023: Podcast: Silver comeback, watch OPEC as crude oil slides lower
16 Nov 2023: Crude oil weakness adds focus to upcoming OPEC meeting
15 Nov 2023: Soft CPI lifts gold and beaten down silver and platinum
12 Nov 2023: Copper supported by green transformation demand and peak rate speculation
10 Nov 2023: Commodity weekly: Crude oil risks overshooting the downside
Previous "Commitment of Traders" articles
8 Jan 2024: COT: Weakest commodities conviction since 2015
18 Dec 2023:COT: Crude long hits 12-year low ahead of FOMC bounce
11 Dec 2023: COT: An underowned commodity sector raising risk of an upside surprise in 2024
4 Dec 2023: COT: Speculators add further fuel to gold rally
20 Nov 2023: COT: Crude selling slows, grains in demand
14 Nov 2023: COT: Crude long slumps; agriculture sector in demand
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