OPEC+ group announced voluntary production cuts starting in May, but have since traded close to the lows seen in early 2022. While the International Energy Agency (IEA) in its latest oil market report released on 16 May indicated that demand remains robust—we estimate current demand is around 101 million barrels per day (mbpd)—futures and options positioning data show that investors remain on the sidelines and unwilling to add long positions.

Investors are on the sidelines in crude oil

Positioning of noncommercial accounts in million barrels in Brent and WTI futures and options

Many market participants had a positive price outlook at the start of this year, but investors have avoided the underlying over recession fears in the US and, more recently, weak economic data out of China (although the IEA estimates that Chinese demand hit a record high of 16mbpd in March). Other factors include doubts around Russia’s production cut pledge of 0.5mbpd in recent months in view of elevated oil exports, as well as higher crude exports from some Middle Eastern oil producers in April. This has led to concerns over weaker production compliance, but higher exports are likely due to lower domestic demand. Also of note is that the oil market still needs to digest the sizable inventory build of 3mbpd in January, a result of the mild winter in the Northern Hemisphere and a supply increase in 2H22.

We have noted that year-over-year changes in OECD commercial oil inventories clearly explain changes in the Brent price. The increase in inventories, which were boosted by the release of strategic oil reserves last year, has weighed on prices since mid-2022.

And we expect to see larger inventory draws in the months ahead. With lower oil production in May—caused by the OPEC+ voluntary production cuts and wildfires in Canada— we anticipate oil production to fall back toward 100mbpd in 2Q23 from around 101mbpd in 1Q.

At the same time, demand is likely to approach 102mbpd in June, supported by higher demand in the Northern Hemisphere (fueled by the driving season in the US) and the Middle East (oil used to generate power to cool down buildings). We expect the oil market to be undersupplied by nearly 1.5mbpd in June.

Against this backdrop, we think investors will return to the oil market as larger inventory draws become visible, thus supporting prices. So, we retain a positive price outlook. But as we now anticipate Russian oil production to stay at around 9.6mbpd and no longer fall toward 9mbpd, we have curbed our forecasts: We now see Brent at USD 90/bbl and WTI at USD 85/bbl by end-September (cut by USD 15/bbl), and at USD 95/bbl and USD 90/bbl, respectively, by both end-December and end-March 2024 (down USD 10/bbl).

We continue to advise risk-taking investors to add long exposure via first-generation indexes or longer-dated Brent contracts, or to sell Brent’s downside price risks. Our preference remains to gain exposure to oil via Brent and not WTI. With elevated political uncertainty, the US administration could, for example, ban exports of refined products (and eventually crude). While we see a low probability of this event, such a decision could heavily weigh on US prices.
Source: UBS