Oil: Can the selloff sustain?

It took no less than a full-blown banking crisis for international oil markets to extend losses for well over a week. Brent crude, having lost near 15 percent in ten trading sessions, highest weekly loss since first Covid peak quarter, and the lowest price in over a year, is seen by some observers to have entered the bear zone.

This week could prove to be most crucial in determining which way is oil headed as more measures are expected to be announced around the banking crisis. All bets are off obviously if the current banking sector turmoil actually leads to a full blown recession in the US and Europe. That chance of that happening has increased significantly after the events of last week. The oil market selloff is hardly surprising in that context.

Market observers have tried to make sense of the relative calm shown so far by Opec Plus leaders. The oil cartel stands firm on its 2023 production cut plans and sees no reason for an emergency huddle to alter the plan, after last week’s selloff. Opec Plus puts the selloff down to speculative investors leaving the derivatives oil market, with little to no apparent weakness noticed in the physical market. And that is true to a large extent – given how Saudi and Gulf official selling rates in the physical markets have retained the strength in the last three months. There are no indications yet of any big production cut outside the earlier agreed upon deal – from any corner of the Arab Gulf.

There is another angle to WTI crude falling under $70/bbl – which is around US shale production. This is around the level where significant 2023 production from Mexico and US shale producers has been sold in the forward market. Opec Plus continues to assert the market imbalance is only going to intensify in the third and final quarter of 2023, especially as Russia’s additional half a million bod oil production cut comes in the mix.

Russia and Opec do not see reasons to alter demand growth projections citing the core comes from China and India – which is largely driven by inward consumption. The International Energy Agency (IEA) forecasts 1.5 million bpd gap between supply and demand in 4Q of 2023 –which partly explains Opec’s calm. Russia’s oil production is expected to have come down by around the same amount by the end of 2023, from the start of the Ukraine war.

Russia keeping up with production cut is a high probability scenario – given Moscow’s exemplary compliance ever since becoming an extension of Opec. The supply equation sits in favor of Opec Plus – but the same cannot be said with certainty for demand side after last week events. India and China must continue to grow at aggressive rates and the banking turmoil must not turn into a prolonged period of recession in the West, - for the imbalance to continue working in Opec’s favor.