The overnight decline in the front-month ICE Brent contract to below $100/b could signal an end to a selloff that has seen prices lose more than $13/b this month, analysts said Tuesday.
The contract’s weakness has been reflected in the structure at the front of the curve, which flipped into contango for the first time in nine months, and the narrowing of the premium to NYMEX crude to the lowest level since January 2012.
“A combination of refinery maintenance, weak margins capping utilization rates, as well as improved supply availability in the Atlantic basin, has already been adding pressure at the prompt for crude,” Barclays analyst Miswin Mahesh said in a note.
“The trigger for the move below $100/b, however, came from a packed tide of cross currents from selloffs in other asset classes, along with the recent stream of poor macroeconomic data from the US and China,” Mahesh said.
Traders, meanwhile, also pointed to South Korea’s customs agency revising its oil tax rules to end the current system under which local refiners claim back tariff on export of products based on North Sea crude.
“The South Korean tax window has been removed,” a trader said, explaining the weakness being seen in the physical Brent market.
LITTLE SCOPE FOR FURTHER DOWNSIDE
But despite the contract’s weakness, analysts see little room to the downside, with a recovery of sorts expected by the end of the quarter as demand picks up.
“Global refinery maintenance is now past its peak with demand expected to recover more quickly this year. By mid-May, refinery capacity offline should be below February levels with additional declines expected into June,” Morgan Stanley analysts said in a note.
“More specific to Brent, Western Europe maintenance has already started to decline, with another large decline expected in mid-May and refinery margins are slowly recovering. As a result, we see global runs starting to recover in May, with a notable ramp in crude runs into summer.”
Mahesh, meanwhile, said bargain hunters will play a role in maintaining prices at current levels.
“The first level of support is expected to come from several consumers [who] have been waiting on the sidelines for a better entry point for their hedging programs,” Mahesh said.
“We see a pick-up in hedging activity on the first leg of downward adjustment from current levels.”
If prices continue to fall, however, the Mahesh said a cut in OPEC production is likely, a theory supported at VTB Capital.
“We expect OPEC to act to defend Brent at around the $100/b mark by withdrawing supply from the market. The key question, in our view, is whether Saudi Arabia will be willing to do enough on its own or will require participation from other OPEC members,” VTB Capital analysts said.
“The former option would lead to more rapid price stabilization and recovery.”
BUT SOME RISK REMAINS The VTB Capital analysts warned, however, that if history is any guide, there is still a risk that the contract price could fall further. “Last year, oil volatility was low and Brent still managed to hit $126/b at the top and $89/b at the bottom … So price weakness in the current environment could reach well down in the $90s and potentially below,” they said.
The the increasing short-term risk for prices had Goldman Sachs closing its trading recommendation to hold a long Brent crude position in the S&P Goldman Sachs Commodity Index.
“We will not get clarity on whether this weakness in European demand is indeed just seasonal or whether it reflects something more lasting for another two months,” Goldman said.
“In the meantime, European margins could suffer further as the European refinery turnaround season has peaked and more and more refineries are coming back from maintenance,” they added.
“This could put further downward pressure on Brent prices, which could be exacerbated when the large crude inventory overhang in the US Midwest will is shifted to the US Gulf Coast beginning in May.”
Despite this, Goldman said it expects the Brent price to move back to its short-term target of $110/b as the market moves out of the seasonally weakest demand period.
Source: platts.com
