Crude Oil: Worries Over Reduced Supply Offset Concerns About Lower Demand

Tuesday’s price action in crude oil only proves what we already know: despite calls of an oversupplied market and reduced global demand, traders are more concerned about not having enough crude oil.

With the market primarily supported by long hedge fund positions, bullish news is going to have a greater impact on prices than bearish news. This is because bullish news gives investors the confidence they need to add to their positions. Bearish news, on the other hand, may encourage a few of the weaker longs to bail out of their positions, but may not be enough to destroy the well-established uptrend.

On Monday, we saw crude oil weaken early in the session after OPEC reported that it expected world oil demand to grow by 1.43 million bpd in 2019, down from 1.64 million bpd in 2018. It cited a cooling of China’s economy and weakness in the emerging markets as two reasons for a potential drop in demand.

The bears were handed a gift on Monday and early Tuesday when emerging markets were crushed by the economic turmoil in Turkey and after China released a series of weaker than expected economic reports, but crude oil remained firm. This is because traders put more weight on the story that Saudi Arabia had reduced crude output by 200,000 barrels per day to 10.29 million bpd in July.

Adding further to the bullish tone in the market is the uncertainty over the impact of the sanctions against Iran. The estimates of the loss of crude at 1 million to 1.8 million barrels per day remains too wide to have a strong enough impact on the market to drive prices substantially lower at this time. Furthermore, we won’t know the actual loss until November when the sanctions officially begin.

Prices will begin to retreat if momentum starts to build for a loss of 1 million bpd, however, they will continue to be underpinned as long as the 1.8 million bpd number continues to be floated. As we approach November 1, we may learn more about the actual figure, but until then speculators betting on either number are likely to cause a volatile two-sided trade.

When reports of a global economic slowdown and lower future demand hit the news then the impact of a loss of 1.8 million bpd loss gets reduced. However, when the news that the Saudi’s cut output in July comes out, even a 1 million bpd loss gets magnified.

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Moving forward, we continue to expect to see a volatile two-sided trade because stories of lower demand will be offset by concerns over reduced output by the Saudis, or even Russia. We believe that both major producers are trying to hold international benchmark Brent crude oil at about $70.00 per barrel. Whether they will be able to keep prices in that neighborhood will be determined by the actual export reduction from Iran. That’s the unknown at this time.