WTI crude oil has rebounded $1.22 today but it was flushed lower this week on a series of factors that offer hints on what's coming next.
1) Technical selling
The first reason is the simplest: $80 broke. Oil tested $80 several times before finally breaking it on Tuesday. That sent crude cascading lower and it wasn't until just below $75 that it found support.
2) Curve selling
WTI crude oil flipped from backwardation to contango this week and that set off a wave of bearish curve convexity selling. The switch signals a less tight market and plenty of algos were programmed to sell on it, just as they bought when it first flipped into backwardation.
"Technical trigger breaches can lead to massive CTA driven price volatility," writes RBC's Michael Tran. "Wo while we remain hyper focused on market fundamentals, we must respect that this market has evolved into as much of a momentum-based market as it is a fundamentally driven one."
3) Seasonals
It's a seasonally-weak time for crude demand and for crude. Inventories are typically wound down in October-November. The good news for bulls is that the first week of December typically marks the seasonal bottom and seasonal strength continues from there through June.
4) Speculative positioning
Legendary oil trader Pierre Andurand notes that net long speculative positioning in oil and petroleum products is fast approaching the lowest levels since tracking began in 2011. He cites economic worries
5) OPEC exports
This is a big one and goes back to seasonals. While OPEC members have adhered to production cuts, exports have been climbing. This is part of a seasonal pattern but the reality is that it means more oil is coming to the market. It represents a reversal from an undershoot in August exports that was the initial trigger for the rally in oil.
6) Physical market
In July and August, it was looking like there would be 2 million barrels per day of crude inventory draws, globally into year end. That was consistent with the 1.8 mbpd in July/August and accounted for some demand growth. Instead, inventories have risen around 0.5 mbpd. That's part of the seasonal pattern but it's still caught the market by surprise and indicates it's not nearly as tight as feared.
7) Iran continues to produce
There has been fresh talk of sanctions on Iran (more on that in the next point) but Biden's White House has essentially let Iran trade freely in oil, with the crude headed to China. Iran has been able to ramp up production as it inches towards full capacity.
8) Gaza may have spooked offshore storage
Iran and others in the Middle East store much of their oil on water in tankers. After the Gaza attacks, there is speculation they moved to quickly sell and unload that oil on fears of a larger war breaking out, confiscation or sanctions.
9) Demand picture unclear
For the current week, GasBuddy has reported a sharp 9% w/w decline in US gasoline demand. Those numbers can be volatile and seasonal but they've certainly gotten some attention. Meanwhile, JPMorgan had this to say:
Our global oil demand tracker shows demand averaged 101.8 mbd in the first week of November, running 100 kbd above our published projection for the month. Year to date, the world's oil demand has expanded by a solid 2.0 mbd.
Saudi Arabia's Prince Abdulaziz bin Salman was asked this week about softening demand. “People are pretending it’s weak. It’s all a ploy... It's not weak."
10) China signals unclear
China had been a heavy buyer of crude early in the summer and might be destocking but JPM isn't so sure.
While our China demand tracker suggests demand averaging 16.8 mbd in 4Q23, other high-frequency indicators remain mixed. For instance, Chinese flights have dropped to levels last seen in March 2023 (Figure 16). Moreover, although trucks on Chinese expressways have rebounded to 55.1 million after the Golden Week holidays, they remain 7% below the peak in 2023.
Zawya also reports:
The government of Shandong province, China's independent refinery hub, has asked Beijing for an extra 3 million metric tons of fuel oil import quotas for the rest of 2023 to enable plants to raise output amid a shortage of crude oil quotas, trading sources and a consultancy said.
What next?
Here's RBC's Michael Tran again:
The futures market appears oversold, and while the broad macroeconomic framework remains concerning, until the physical oil indicators roll over, it is difficult to believe that an 8.5% pullback over a week long span can be justified. That said, while there may be some short term asymmetric upside for crude prices, mounting concerns of slowing demand could be enough to ease the enthusiasm for a significant relief rally over the coming weeks.
Could shipping be a trigger?
Bloomberg notes that 51 ships are en route to US oil ports over the next three months and about 80% are empty. It's the largest number of ships headed to US ports in at least six years, so that should tighten up.
Given all these reasons, I think there's a compelling reason to buy the dip in oil but I don't see a rush to do it right now. I think this episode will solidify Saudi/OPEC resolve to tighten the market in Q1 and the announcement of longer production curbs. The next OPEC meeting is November 26 and I would want to be long ahead of that. Buying in the low $70s in WTI presents an attractive risk-reward if it comes.
