There has been little bearishness in the physical fundamentals of oil markets of late, but certainly not enough to warrant the drop of more than $4/bbl in the latter weeks of May.
What has changed is the psychology of the oil markets. The question then becomes: How bearish will the market psychology get this summer before physical fundamentals overtake it again?
The answer seems to lie in the size of what one thinks the "anxiety premium" was in the runup to nearly $30/bbl (New York Mercantile Exchange crude futures for next-month delivery).
Stock build, profit-taking
A large and unexpected stock build in US crude oil imports and a spurt in US imports of refined products underscored the bearish sentiment that was beginning to take hold in mid-May. Compounding this bearish view was a substantial run of profit-taking by traders in May.
Consulting group Petral Worldwide Inc. took note of this trend in a late-May anal ysis: "Significantly, commodity trading funds and other large speculative traders boosted their long contract positions by 10,000 contracts during the first half of May, while short interest positions were nearly constant. We expect speculative traders and commodity fund managers to significantly reduce long contract positions and gradually increase short interest positions. This shift in NYMEX activity will contrib ute to bearish pressures on [crude oil futures] prices for the next few weeks."
Market psychology
Of course, the stock-building and profit-taking were largely reversals of previous trends that had been driven by an ever-rising anxiety premium built by oil exporters' restraint, the worsening of the Israeli-Palestinian conflict, and the continued (if some what oblique) saber-rattling the US has aimed at Iraq.
While "positive" developments must be regarded as relative perceptions concering the continuing sad horror that is Israel and Palestine, there at least seemed to be some steps back from the abyss in the first weeks of May.
By a similar-if not the same-token, both the Bush administration and Baghdad lately have seemed to be stepping down a notch from their mutual truculence. Iraq, in fact, has ostensibly embraced the latest rollover of the oil-for-aid sales accord and announced plans to step up oil production beyond preembargo levels.
But the most worrisome trend for bears is the loosening of oil exporters' restraint in recent weeks. Norway exhibited its usual low profile in abandoning the production curtailments it had instituted in solidarity with the Organization of Petroleum Exporting Countries' efforts to buttress oil prices. Venezuela's role as a driver in the anxiety premium was reversed in the past few weeks as the embattled administration of President Hugo Chávez sent mixed signals over his country's fidelity to its OPEC quota.
OPEC vs. Russia?
But the strongest depressant for oil prices may have been the early warning signs of a market share war between OPEC and Russia. Moscow has pointedly abandoned its earlier production restraint (if it ever truly existed).
Meanwhile, the summit between US President George W. Bush and Russian President Vladimir Putin was accompanied by Russia's fervent expressions of reliability as an oil supply alternative to the restive Middle East. (Perhaps those with short memories have overlooked the role the collapse in Russian oil supplies a decade ago played in restoring OPEC market dominance.) At the same time, OPEC ministers have sought to beat back speculation over the group possibly ramping up production again in the second half to accommodate rising second half demand.
The more fretful market observers might be seeing all this as sowing the seeds of a Russia-OPEC (Saudi, really) confrontation. But they would be overlooking the capability of Russia to affect the market in the short term. Predictions abound that Russia will add another 3 million b/d of production capacity in the years to come. But its ability to expand output this year is limited.
No one has a good handle on how much oil demand will grow in the second half. One thing seems pretty certain: The demand growth that OPEC is banking on the second half may just happen with NYMEX crude at $25/bbl or so-which is likely if the group's restraint holds to some degree. But oil demand growth in the second half would have been severely crimped had oil prices continued to press the $30/bbl ceiling.
It may not be just the Middle East adversaries that have stepped back from the abyss.
(Online May 31, 2002; author's e-mail: [email protected])
