Brent to remain steady in near term, reflects demand destruction: Emkay

In 2023, the journey of WTI Crude Oil prices resembled a roller coaster, characterized by a decline in the initial five months, a subsequent rise for the next four months, and a final decline in Q4. Following a peak at $130.5 per barrel in March 2022, oil prices plummeted by over 40%, influenced by robust Russian flows, a slowdown in Western countries, and a lackluster economic recovery in China.

Brokerage house Emkay Wealth Management, the advisory arm of Emkay Global Financial Services, expects Brent crude to trade in a range-bound pattern in the near term with a likelihood of some decline. Currently, it is trading at around $80 per barrel and has been hovering in a narrow-range for the last month.

"Two conflicting factors are influencing the trajectory of oil prices. One perspective revolves around the concept of demand destruction, while the other emphasizes the anticipated demand growth from countries such as India and China over the long term. Upon closer examination, it appears that the immediate and short-term dynamics may be influenced by demand destruction, whereas the sustained, long-term growth in demand is expected to stem from the economic engines of India and China," the brokerage said in a note.

The argument for demand destruction primarily stems from the widespread occurrence of high inflation across countries, with fuel prices being a major driver of this inflationary trend. The premise is that elevated prices act as a self-correcting mechanism. In support of this perspective, observations have been made regarding a substantial decline in fuel consumption in the United States during the recent holiday season. This reduction is believed to be a consequence of consumers exercising restraint in response to the elevated prices, as per Emkay. 

 The International Energy Agency (IEA) underscores this point in its report, stating that there is emerging evidence of demand destruction, citing preliminary September data that indicates a significant drop in US gasoline consumption to levels not witnessed in two decades.

The forthcoming OPEC meeting is anticipated to exert influence on oil prices, with the possibility of OPEC implementing measures such as output restriction or supply curtailment to prevent a further decline in prices, as has been done in the past. 

Recent data from the United States for October reveals that oil production has reached its highest levels in recent history. Since the conclusion of the pandemic, the oil rig count has more than tripled, contributing to elevated levels of oil production. There's a projection that daily oil production may reach 13 million barrels, surpassing the previous peak of 12 million barrels per day. This factor could play a crucial role in determining the trajectory of crude prices, explained Emkay. 

"There has been no disruption of traffic in the gulf region due to the conflicts and this may not possibly be a factor to reckon with immediately. While fuel prices move lower, the positive impact it may have on global inflation levels is a boon for import-dependent economies like India and China, and also for most parts of Europe, and this may facilitate soft money policy in the coming quarters," noted Emkay.

In May 2023, oil prices hit a 17-month low of $63.64 per barrel due to concerns of contagion from the failure of a US regional bank, coupled with troubles at Silicon Valley Bank and Credit Suisse Group AG triggering a massive sell-off in crude oil futures. "However, prices have been increasing since late June due to OPEC+ output cuts tightening the physical oil markets. In April, OPEC+ surprised markets by announcing voluntary production cuts of around 1.657 mbpd until the end of 2023. In June, Saudi Arabia added a surprise 1 mbpd production cut, and Moscow pledged to reduce oil exports by 500,000 bpd (later adjusted to 300,000 bpd) until year-end. Persistent support measures from Beijing, aimed at boosting the economy postCOVID recovery, also contributed to positive sentiments. Oil prices experienced a rise in October following an Hamas attack on Israel, threatening Middle East tensions. However, prices declined in Q4 2023 due to the absence of supply disruptions from the war, increased non-OPEC supply, deteriorating demand prospects, and a seasonal lull in demand," said Kotak Securities in a note. 

Supply concerns diminished, leading oil markets to shift into contango in November, as OPEC+ supply cuts were outweighed by rising output elsewhere,  it said.  US crude production reached a record high of 13.05 mbpd in August, surpassing the previous peak set in November 2019 at 13 mbpd. The role of US crude in global oil markets grew as OPEC+ leaders, Saudi Arabia and Russia, extended production cuts. Additionally, the US suspended some sanctions on Venezuelan oil and other commodities in response to an electoral roadmap agreement between the government of President Nicolas Maduro and the opposition. Analysts estimate that this shift may enable the US to increase output by about 200k bpd, a roughly 25% jump.

According to Kotak Securities, an anticipated slowdown in supply growth in 2024 may prompt OPEC+ to make efforts to maintain the $80 per barrel floor. However, the decisive factors influencing prices will be how the demand scenarios unfold in the United States and China, cautioned the brokerage.