Crude oil is paring some of the gains made over the last 6 weeks to start the second week of June, dragging down oil ETFs, as oil futures approach technical levels and investors look to take profits off the strong return from the negative prices in April.
There was a weekend announcement by OPEC and its allies, known as OPEC+, that unprecedented production cuts of 9.6 million barrels per day throughout the group would proceed through July with the coronavirus pandemic dragging down demand.
Despite optimism from investors, more expensive crude costs without corresponding gains for the products refineries are selling implies that demand growth is lagging growth in prices, and could push refineries to purchase lower crude volumes, resulting in a drop in oil prices.
“One word of caution is if we look at the rally we’ve seen in crude oil prices, it’s been amazing, but the big uncertainty is if you look at refinery margins, they are very weak across the board across all regions,” Warren Patterson, head of commodities strategy at ING. “And what that suggests is that maybe demand isn’t recovering as quickly as many had anticipated, or at least it’s not keeping up with the move higher that we’ve seen in crude oil prices.”
Crude oil ETFs are slipping amid the falling futures as well. The United States Oil Fund, LP (USO) is off over 2% Monday, while the ProShares Ultra Bloomberg Crude Oil (UCO) lost 4.23%.
Some of the massive rally in oil can be attributed to China, which witnessed a significant rebound in crude imports in May with a record 11.3 million barrels per day, a gain of 13% from April.
But some analysts wonder whether this is the result of genuine consumption or just opportunistic buying from Chinese refiners given the all-time low prices in crude oil. “My view is that it is the latter,” said ING’s Patterson. “They’ve taken advantage of the lower prices we’ve seen in the last couple of months in order to stock up on oil.”
Ehsan Khoman at Japanese bank MUFG feels that part of China’s buying “does signal opportunistic purchasing to capitalize on cheaper crude costs” as China shores up its strategic supply.
MUFG projects Brent crude picking up to $46 per barrel at the end of this year and $49.20 in the first quarter of 2021, along with several analysts who envision oil hitting $50 a barrel by 2021.
Still, “it’s still all about the demand recovery,” Rystad’s Head of Oil Markets Bjornar Tonhaugen wrote in a note Monday. “OPEC+ must be cautious not to become too greedy with respect to crude price increases and hurt refinery economics too quickly since the recovery in products demand and prices at the end of the day will call the shots in this recovery.”
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