FxWirePro: WTI Crude Demand/Supply Equation & Hedging Strategy

WTI and Brent crude prices are drifting in sideways from the last couple of days. WTI is trading a tad below $42 a barel, while Brent is stuck tad below $45.

Although it is natural to expect the sharp growth bounce over May and June fueled by pent-up demand and massive policy support to naturally fade, the current six-week-long stalling in global mobility is concerning.

There is increasing evidence that the 2Q demand rebound that helped drive oil prices higher appears to be running out of steam.

If demand were to flatline at July’s level through the end of the year, this would strip 6.3 mbd of growth from JP Morgan’s model.

This essentially would mean that a "new normal" level of demand may ultimately be about 6 mbd lower than the 96.5 mbd we currently peg.

Chinese buying spree is also set to ease as the country digests 540 mb of oil stockpiles accumulated during Jun-Jul.

This is all taking place at a time when OPEC and its allies are set to roll back 2 mbd of production curtailments starting from August 1 and refiners are showing signs of limiting throughput to work down product stocks.

Amid these developments, there are some signs of weakness emerging in price differentials and curve structure. Yet, despite accumulating signs that market fundamentals are getting

shakier, prompt oil prices have so far proved resilient with futures in New York and London trading above $40/bbl throughout July.

US dollar weakness, while supportive, does not look to be driving prices in July.

Ultimately, we think OPEC+’s transition to a rolling monthly evaluation of the market (the next meeting is set for August 18) has underpinned Brent's stickiness around $40/bbl.

Accordingly, were demand to crater meaningfully in between the meetings, OPEC+ has signaled it is ready to act if prices fall too far below $40/bbl.

The question whether this indeed is the case and what country will be executing the cuts is extraneous, as for now the intent seems to be sufficient to keep the prices range-bound.

We now expect oil demand to remain unchanged compared to 2019 levels at 99.5 mbd during 2020. This amounts to a sharp downside revision compared to earlier expectations for 0.76 mbd growth y/y in 2020.

Hence, we advocated shorts in CME WTI futures contracts of far-month tenors with a view of arresting any abrupt dips, we would like to uphold the same strategy by rolling over these contracts for August month deliveries. Courtesy: JPM