Oil Prices - July 27
Posted: Fri Jul 27, 2012 9:47 am
GLOBAL OIL FUNDAMENTALS: CRUDE TO REMAIN RANGE BOUND - July 27, 2012
Morgan Stanley & Co. LLC
Fundamentals improving, but far too many headwinds to get excited from here. Fundamentals have improved heading into 3Q12, with global inventories building much less than expected, but still slightly above normal. Still, we do not see an overly favorable risk-reward from here, especially in light of the macro. Low product stocks in the OECD are admittedly constructive, but less so given that the tightness stems from reduced refinery production (and not robust demand). Without a supply disruption, a large cut from OPEC, or a material change in the macro, we expect crude to trade in a range. To reflect the strength exhibited by crude YTD, we are marking to market our average Brent price forecast to $110/bbl (from $105/bbl), implying crude trades around current levels into year-end.
3Q12 improving from 2Q12 lows. Positive macro surprises and renewed geopolitical risk have lifted crude from recent lows. Physical markets have tightened, and Brent is again trading in backwardation. Beyond seasonally stronger demand, a number of supply issues, including strikes in Norway and elevated North Sea maintenance, have contributed to limiting inventory builds. However, most of the tightness we see in physical markets is one of quality, not quantity. Beyond Brent-specific issues, light sweet crude supply does not appear challenged. Rather, lower exports from Iran and Iraq (along with existing global outages) are weighing on more desirable and distillate-rich medium sour grades. Lower product stocks in the US and Europe have also helped lift margins in the Atlantic Basin and will likely drive greater crude demand through 3Q. Lastly, preliminary readings show 2Q12 OECD stocks building less than normal. Stocks have built in the non-OECD as an offset, but there is little evidence to show these barrels are "available".
But improvement not enough to get us excited -crude likely to stay in a range. We see a number of challenges that should limit crude's upside, driving our range bound view.
1) Weak demand in both OECD and Non-OECD. We find it hard to be overly bullish with demand growth continuing to erode in the OECD, and now slowing in the EM.
2) Supply growing into 3Q12 and may surprise to the upside. New production from Iraq, Angola, and N. America, along with returning supply from Yemen and Angola should help boost supply into 3Q12. Signs of increased Iranian exports to Asia also offer upside.
3) Higher runs will likely erode margins in Europe. Low product stocks and high distillate cracks will support runs near-term, but as runs increase, margins could be at risk.
4) High US utilization, fall maintenance limit crude demand upside. US runs are already at very high levels, partly to support exports, limiting the ability to run harder.
5) SPR release and already elevated oil burden are a threat to higher prices.
Morgan Stanley & Co. LLC
Fundamentals improving, but far too many headwinds to get excited from here. Fundamentals have improved heading into 3Q12, with global inventories building much less than expected, but still slightly above normal. Still, we do not see an overly favorable risk-reward from here, especially in light of the macro. Low product stocks in the OECD are admittedly constructive, but less so given that the tightness stems from reduced refinery production (and not robust demand). Without a supply disruption, a large cut from OPEC, or a material change in the macro, we expect crude to trade in a range. To reflect the strength exhibited by crude YTD, we are marking to market our average Brent price forecast to $110/bbl (from $105/bbl), implying crude trades around current levels into year-end.
3Q12 improving from 2Q12 lows. Positive macro surprises and renewed geopolitical risk have lifted crude from recent lows. Physical markets have tightened, and Brent is again trading in backwardation. Beyond seasonally stronger demand, a number of supply issues, including strikes in Norway and elevated North Sea maintenance, have contributed to limiting inventory builds. However, most of the tightness we see in physical markets is one of quality, not quantity. Beyond Brent-specific issues, light sweet crude supply does not appear challenged. Rather, lower exports from Iran and Iraq (along with existing global outages) are weighing on more desirable and distillate-rich medium sour grades. Lower product stocks in the US and Europe have also helped lift margins in the Atlantic Basin and will likely drive greater crude demand through 3Q. Lastly, preliminary readings show 2Q12 OECD stocks building less than normal. Stocks have built in the non-OECD as an offset, but there is little evidence to show these barrels are "available".
But improvement not enough to get us excited -crude likely to stay in a range. We see a number of challenges that should limit crude's upside, driving our range bound view.
1) Weak demand in both OECD and Non-OECD. We find it hard to be overly bullish with demand growth continuing to erode in the OECD, and now slowing in the EM.
2) Supply growing into 3Q12 and may surprise to the upside. New production from Iraq, Angola, and N. America, along with returning supply from Yemen and Angola should help boost supply into 3Q12. Signs of increased Iranian exports to Asia also offer upside.
3) Higher runs will likely erode margins in Europe. Low product stocks and high distillate cracks will support runs near-term, but as runs increase, margins could be at risk.
4) High US utilization, fall maintenance limit crude demand upside. US runs are already at very high levels, partly to support exports, limiting the ability to run harder.
5) SPR release and already elevated oil burden are a threat to higher prices.