It could be a hot summer ahead for oil prices

It could be a hot summer ahead for oil prices

Oil prices could temporarily climb to $ 80 a barrel or more this summer as demand picks up.

The reopening of the economy has already pushed crude up by about 40% since the start of the year, but an increase in American driving, along with an increase in freight transport and air travel, could put pressure on prices.

For consumers, this means that the typical early summer peak in gasoline prices could occur later in the season. Unleaded gasoline cost $ 3.04 a gallon on average Wednesday, about a dime more than last week but more than 50% more than a year ago, according to AAA.

Brent term, the international benchmark for crude, rose 1.6% to $ 71.48 per barrel on Wednesday, the highest since January 8, 2020. West Texas Intermediate Futures for July rose 1.6% to $ 68.83 a barrel, after hitting a high of $ 69.65, the highest since October 23, 2018.

“The demand is growing very quickly because everyone is driving, and we have the reopening of Europe, which is really starting to happen,” said Francisco Blanch, global commodities and derivatives strategist at Bank of America. “India seems to have reached an inflection point, in terms of cases, which in my mind could mean you are getting mobility back as well.”

Uncertainty around higher prices

Energy analysts agree that the world is going through a period of higher prices, but they disagree on how much and how long. Blanch said Brent has already hit his goal of $ 70 for the quarter, but has a much more optimistic long-term view than the others.

“We think in the next three years we could see $ 100 barrels again, and we stick with that. It would be a 2022, 2023 story,” Blanch said. “Part of that is because OPEC has all the cards, and the market is not particularly price sensitive on the supply side and there is a lot of pent-up demand… We also have a lot of inflation everywhere. Oil has lagged behind rising prices across the economy. ”

OPEC members and their allies, a group known as OPEC +, are gradually bringing oil back to market. They agreed to implement their previously planned production increase of 350,000 barrels per day in June and an additional 450,000 barrels per day from July. Saudi Arabia has also agreed to take a step back from its own cuts of about a million barrels per day, which was implemented earlier in the year.

OPEC + agreed in April to increase its production by more than 2 million barrels per day by the end of July.

US industry produces around 11 million barrels per day, up from around 13 million before the pandemic. But analysts say it’s unclear how quickly or if U.S. companies will restore that production.

“Producers’ sensitivity to price changes has declined due to capital discipline,” Blanch said. He said there was pressure on companies to be cautious in how they use capital after the price collapse last year.

“At the moment, we are in a position where prices are rising, companies are reluctant to invest,” Blanch said. “They are paying down debt and increasing dividends.”

He said there was also pressure on boards of directors to divest hydrocarbon assets and to move towards net zero carbon emissions by 2050. “You currently have two major forces hindering them. investments in the energy sector, ”Blanch said.

Rising demand in a context of recovery

So far, oil production has not kept up with demand, as global economies rebound. Even after OPEC + pledged on Tuesday to bring crude back to market, the price of oil continued to climb.

“Welcome to the post-pandemic world,” said Daniel Yergin, vice president of IHS Markit. “We are finding that demand increases rapidly between the first and third quarters by 7 million barrels per day.”

Yergin said his Brent target is $ 70 a barrel on average this year.

“There is an incredible case where the price of oil could reach $ 80, but there would be a reaction to that. It would start to affect demand, and there would be a political reaction to that as well,” Yergin said. “You will start to see phone calls coming in. [President Joe] Biden has been in politics long enough to know that high gasoline prices are still a problem for the president. This is true even in the age of energy transitions. “

The growth in demand is such that analysts expect the market to be able to absorb an additional million barrels per day of Iranian production if it reverts to its previous commitments on its nuclear program, as the Biden administration wanted. . But when that could happen is uncertain.

“The return of Iranian barrels does not appear to be an imminent problem for the oil market, as the fifth round of nuclear negotiations in Vienna failed to produce a major diplomatic breakthrough,” wrote Helima Croft, head of the global strategy of the United States. commodities at RBC.

Croft added that The International Atomic Energy Agency’s verification of Iranian enrichment activities appears to be one of the issues that must be addressed before the Biden administration provides sanctions relief.

“With the Iranian election season in full swing, it now looks like the return of these sanctioned barrels will likely be a summer talking point for OPEC,” she noted.

Croft said it is also important to know who will become the energy minister for Iran after the election. The current minister has supported an orderly return to the oil market.

“How they come back will be important and we are closely monitoring what will happen with their floating storage which has increased,” she said. Croft said that if Iranian oil is not restored on a regular basis, it could scare the market and temporarily lower prices. The market will react “if it is a spectacle of shock and wonder based on the fact that they are emptying all their floating storage”.

Separately, Iran’s largest warship, the Kharg sank Wednesday after catching fire in the Gulf of Oman. The crew was declared unharmed and no further explanation was given for the incident, according to Iranian media.

Bullish demand and price forecasts have supported the rise in crude prices this week, according to John Kilduff of Again Capital. He said OPEC forecast demand could reach 99.8 million barrels per day by the end of the year, but supply is only expected to reach 97.5 million barrels per day.

“I’ve been an optimist for a while now,” Kilduff said. He expects Brent to hit $ 80 a barrel and WTI to trade between $ 75 and $ 80. “Demand trends have exploded… The real pangs of that, I imagine, will come as we get closer to Labor Day.”

Kilduff said the key to the longer-term vision is to what extent the U.S. shale industry is resuming its old operations and moving forward.

Citigroup analyst Eric Lee has said he expects US drillers to return to their previous production levels eventually, but he notes a change in attitude.

“If you separate them, private companies have reacted quickly. Public independents and majors have been much more careful,” Lee said.

OPEC + currently sees no threat from the United States and has plenty of spare production capacity to curb price increases and increase supply if needed. Previously, higher prices were an invitation for the US shale industry to pump more, which in turn could lower prices.

“They don’t see the American producers coming back very strongly right now, and I think they are of the opinion that the American producers are not coming back in force,” he said. “As for the way they’re behaving now, they’re not that worried about shale right now, so they’re more willing to put the brakes on production. “

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