After OPEC's surprise output cutback announcement in March, when Brent crude surged 8% in one day, it now is trading below where it was prior to the cut. At the time OPEC's Saudi minister said how the cartel's decision was made to make the hedge funds "ouch like hell," as they seem to make speculative bets only to the downside, but not when they are to the upside. Today, it seems OPEC members are the ones who may be saying "ouch," or at least scratching their heads wondering why oil is collapsing when they have taken about 1 million barrels per day out of the market.
I opined back last summer that there was no shortage of oil, but at a time when the global economy was reopening and demand was surging after the Fed's quantitative easing stimulus, demand shot up in a short window of time, which caught the supply side by surprise. What made matters worse, especially as the world was debating what would happen to Russian oil production, was that OPEC+ was deliberately slow to release all the 10 million barrel per day it cut back in March 2020 at the peak of the Covid crisis. Like a release valve being opened slowly at a time when the thirst for oil was insatiable, prices tend to go up. OPEC along with the US and Russia are swing producers, so any tweak from either of them at a time when there is no margin of error can influence prices to a massive extent.
OPEC+ needs "higher for longer" prices to sustain its future development plans and ambitions for growth in the region. A lot of hype and hope was placed on China at the beginning of the first quarter when it ended its zero-Covid strategy and reopened after being shut down for almost three years. Sell side analysts are still calling for massive demand rebound numbers on a supposed China reopening that the physical markets do not match with the estimates.
Some are still calling for an energy crunch and oil at $200 a barrel. What needs to be kept in mind is that the demand surge seen after Covid was on a very extreme path and that the global economy is undergoing a recession, but the demand estimates have not changed. The tightness in oil came from refining due to outages and product bans, but that is now being matched as China and India have ramped up exports of products, as seen in the collapsing refining margins of gasoline and distillate.
China is back to operating flights almost at to pre-Covid 2019 levels and the economy is fully open. Yet the demand numbers have not surprised to the upside. China may be picking up, but what is happening in the rest of the world tends to impact it as well, as we saw the slowdown in China's April manufacturing numbers.
Lo and behold, the oil "surge" did not come and OPEC+ wanted to preempt the demand shortfall, which is when it caught the shorts by surprise back in March. But this strategy only works in bull markets, not bear or recessionary ones. Indeed, it delays the inevitable as price spikes tend to speed the demand collapse even faster as consumers and manufacturers can't afford higher prices when their margins are falling. The bulls held the lack of spare capacity as their saving grace argument, but that should not matter as clearly with more and more cuts spare capacity is not an issue.
If markets are left to natural forces, demand and supply eventually normalize, but these acts from either OPEC or the Fed in regard to rates cause these massive booms and busts in markets. Short-term thinking leads to much longer protracted pain.
It is not just about supply and demand for one commodity; what we are seeing today is about something much bigger, something much more ominous.
The cartel just needs to wake up and appreciate this. It is all a timing game. It is easy to get excited at the top calling for a crisis just like the market did for gas then for oil. But one needs to separate the cyclical themes from the secular ones.
