Optimism surrounding China’s easing Covid restrictions pushed Brent crude to a multi-month high near $100/Bbl. Expect continued volatility this winter as oil demand outlooks remain clouded.
On Friday alone, Brent crude rose $4/Bbl to $98.72 on signs that China would loosen some of its restrictive movement policies related to Covid-19. According to Bloomberg, China is working to scrap a system that penalizes airlines for bringing virus cases into the country. Oil markets have been hypersensitive to demand-related news from China, the world’s largest oil importer.
The U.S. Fed announced another jumbo 75bps hike to short-term borrowing rates, helping push the U.S. equity market 2% lower on the week. The U.S. dollar rallied following the Fed’s announcement but pared most of the week’s gain to finish Friday almost unchanged. Recent dollar strength has been a significant headwind for any oil rally as a more expensive dollar makes it more costly for foreign buyers to purchase dollar-priced oil barrels.
Now turning the focus to Russian oil supply: The U.S. and its allies have agreed to set a price cap on Russian crude at a fixed level, in contrast to previous suggestions of a floating price that moves with benchmark crude prices. According to Bloomberg sources, the official price cap level has yet to be disclosed, but it will be a fixed number and not a discount to Brent. The coalition would set three price levels: one for crude and two for refined products. The push to enact the price cap is a part of EU sanctions taking effect on December 5.
AEGIS expects the price cap to be more bullish than not for oil prices. A cap would increase the likelihood that Russian production declines, ultimately tightening oil markets. We see no outcome where this policy increases supply, but many ways it could reduce supply.
AEGIS recommends costless collars as the most useful price hedge for most producers. Current collar indications provide clients with attractive floors and allow for some upside, an advantage compared to swaps. The curve’s backwardation, or downward-sloping shape, can make swaps less attractive as prices are discounted in the future. We remain bullish on the forward curve for WTI through 2024. Please contact your strategist or market analytics contact if you want a more comprehensive discussion.