Crude oil faces a slippery this new year

The last year was a roller-coaster ride for commodities and especially for crude oil. WTI crude oil prices fell into negative territory for the first time ever questioning the general market caveat that commodities price cannot be zero.

The second half has been equally remarkable as prices surged by leaps and bounds. From hitting a low of $40.32 per barrel in April, WTI crude oil bounced back to hit a high near $49.3 in December. While Brent managed to hold in the positive territory for the entire year, prices have moved in a broad range of near $16 to a high of about $52.

While crude oil prices have recovered sharply in the last few months, it is still set to end the year with a modest decline. This compares with some other commodities which have managed to hit multi-year highs. Crude got directly hit by the pandemic as virus-related restrictions dampened fuel demand.

Prices tanked into negative territory due to demand destruction caused by the pandemic coupled with rising supplies from the US and OPEC. However, it recovered as OPEC and allies decided on steep production cuts to help rebalance the global market. In addition, other major producers like the US, Canada, Norway also cut production to reduce the glut in the global market.

While crude recovered significantly from the lows, its performance was dwarfed by other commodities which rallied to multi-year highs. This was due to resurgence of virus cases in the US and Europe which forced authorities to resort to restrictions reducing the pace of demand recovery.

A large part of crude’s rally has come in the last two months when we have seen significant progress on Covid-19 vaccination. The success of vaccines has improved future demand outlook as once the outbreak is controlled, travel restrictions may go boosting fuel demand.

This, along with OPEC and allies’ decision to take a gradual approach on production hike in 2021, has helped crude prices test multi-month highs. The year 2021 will be equally challenging. This year, demand has been impacted by unforeseen but temporary factors; while supply has been curbed voluntarily. The year will see normalisation of both demand and supply.

Demand recovery is strictly dependent on how quickly the virus outbreak is controlled. Mass scale vaccination will take months to happen which means virus-related restrictions may remain in place and demand may not recover significantly. Also, the virus situation is still evolving as can be seen from the new variant discovered recently in the UK.

China has been a major driving force behind the rally in commodity markets in 2020; however, with the sharp rise in prices buying pace may slow down. On the supply side, OPEC and allies are taking a slow approach but supply will increase further starting this month even if at a marginal pace.

Meanwhile, Libyan production has risen sharply in the last few months, while supply from Iran is also expected to improve on hopes that US-Iran relations may improve under the Biden administration. Overall, OPEC and allies’ supply will increase in coming months and it has to be matched by demand recovery to keep the market balanced.

Focus will also be on supplies from other producers like the US, Norway, etc as higher prices may incentivise producers to increase their output. We have already seen some signs in the US where rig count has reached the highest level since May.