Uncertainty Remains for Oil Supplies, but What About for Prices?

---

Written by Daniel Graeber for Industrial Info Resources (Sugar Land, Texas)--The price of crude oil was in a free fall during the Tuesday session on signs of a possible breakthrough in Iranian nuclear negotiations, a decline that exposes the extent of the recent geopolitical risk premium.

The price of Brent crude oil dipped below $100 per barrel during intraday trading and West Texas Intermediate (WTI), the U.S. benchmark, was moving in the mid-$90 per barrel range. Last week, both contracts hit highs not seen in years, leading some forecasters to predict $300 per barrel was possible in the near future.

WTI closed the March 8 trading session at $123.70 per barrel. That followed an announcement from U.S. President Joe Biden that the world's largest economy was no longer open to Russian fossil fuels.

Crude oil prices spiked in the wake of the Russian military invasion of Ukraine that began in late February. Including refined petroleum products, Russia is responsible for some 5 million barrels per day (BBL/d) of output, which is desperately needed in an era of low supplies.

But the U.S. decision had little real impact on the market. For the week ending March 4, the U.S. economy took in 148,000 BBL/d from Russia and during the week ending February 25, the economy took in no barrels at all. Canada, the top crude oil exporter to the U.S., averages about 3.6 million BBL/d by comparison.

Click on the image at right for a look at 2021 U.S. crude oil imports by location in millions of barrels per day. ROW="Rest of World." Source: Dallas Federal Reserve

The global market, however, is undersupplied and any potential for further disruptions would only add a heftier premium to the price of oil. While the war in Ukraine is dominating the headlines, Libya -- which was pumping at a steady rate of about 1 million BBL/d, according to the Organization of Petroleum Exporting Countries (OPEC) -- is embroiled in turmoil, which by February had already added support to dated Brent.

But Russia was already under pressure before the invasion of Ukraine, and Libyan production woes should be baked into the price of oil by now.

"While the U.S., European Union and others have imposed sanctions on the Russian economy and banking systems, they had not directly targeted Russia's oil and gas exports as of March 14," economists at the Federal Reserve Bank of Dallas wrote Tuesday.

That implies that crude oil prices are somewhat detached from market fundamentals. When Brent crude oil busted through the $120 mark last week, the analysts at a London oil broker suggested there was a geopolitical risk premium of around $40 per barrel.

With European leaders headed to Kyiv, and with Russian and Ukrainian officials meeting frequently on diplomatic terms, that risk could be fading. Outside of the European continent, there may be concerns that a stubborn pandemic is not in fact receding, even though recent U.S. infection rates would suggest otherwise. Hong Kong and parts of China are locking down again amid the spread of a new variant of the novel coronavirus that causes COVID-19.

For oil, that means sluggish demand, demand that may already be evaporating due to higher inflation and higher energy prices. And despite Russian pressure, there could be a breakthrough in nuclear talks very soon that would see Iran return to the market in earnest, offsetting some of the supply-side pressures.

Elsewhere, we do expect a latent response from the shale patch. U.S. shale is under pressure from investors looking for capital discipline at a time when the energy mix is changing. But that too is evolving. On Tuesday, Northern Oil and Gas Incorporated (NYSE:NOG) (Minnetonka, Minnesota) said it was upping its dividend for shareholders. That would play to the capital side of concern, but in its fourth quarter report, the company said it increased its production guidance by 35% relative to midyear 2021.

While the current economic dynamic suggests a period of higher-for-longer commodity prices, inflationary pressures, a rapid Western response to Russian military aggression and the possible return of other producers such as Iran and Venezuela suggest $120 per barrel oil was fleeting. But we're not out of the woods yet, according to OPEC economists. "Looking ahead, and given the latest developments, which are still only beginning to unfold, it is clear that uncertainty will dominate in the remaining months of 2022," they wrote in their monthly market report for March.

Industrial Info Resources (IIR), with global headquarters in Sugar Land, Texas, six offices in North America and 12 international offices, is the leading provider of global market intelligence specializing in the industrial process, heavy manufacturing and energy markets. Industrial Info's quality-assurance philosophy, the Living Forward Reporting Principle, provides up-to-the-minute intelligence on what's happening now, while constantly keeping track of future opportunities. Follow IIR on LinkedIn.