Weak fundamentals continue to put downside pressure on crude oil prices

Amid fears of a global supply glut, the G7-led price cap on Russian oil and Moscow’s plan for a drastic production cut had little impact on the commodity.

The G7 countries and the European Union set a price cap on Russian oil at $60 a barrel last week. After implementing the price cap, insurance companies and other firms can deal with Russian oil only if prices are at or below the level.

This move was in a view of limiting Russia’s fossil fuel earnings without hindering the global supply chain of the widely used fossil fuel. The seven-member group believes that the price cap would limit Russia’s ability to pay for its war against Ukraine.

Earlier the European Union banned Russian crude oil imports and other petroleum products. The US and its allies want to keep Russian oil flowing into international markets, but to reduce the country’s oil revenue.

In a retaliatory move, Russia announced a production cut of 5 lakh barrels per day from March and stated that they will not sell oil to countries observing the price cap.

Slashing Russian output was expected to put additional disruptions in the global energy supply chain, but the slowing global economy reduces the thirst for oil.However, the price ceiling does not have much impact on Russia’s finances as the country is selling its oil for less than the proposed price. Meanwhile, western economies would suffer more as they must find replacements for Russian oil.

Anyhow, Russia has already rerouted most of its supply to India, China, and other Asian countries and it may keep flowing to the market.

There are worries about mounting inventory levels in the US which could lead to a global supply glut. The American Petroleum Institute data showed a large build in crude oil and distillate inventories in the world’s largest oil producer, the US.

The US EIA also expects high production numbers from the shale basis in the coming months. Amid increased production numbers, the US may sell more oil from its strategic reserves which may pump more oil into the global market.

At the same time, the producers’ cartel OPEC predicts oil demand will grow by 1 lakh barrels in 2023 because of the reopening of China’s economy and hopes for upbeat global economic prospects. They expect China’s oil demand will grow by 590000 bpd in 2023, up from its last month’s forecast of 510000 bpd.

The agency forecast a looming tight market due to reduced barrels from Russia and other non-OPEC producers. The OPEC plus alliance earlier decided to cut global oil output by 2 million bpd to support the market.

Since the supply-demand dynamics of crude oil remain balanced, significant changes in prices are less likely in the immediate future. Demand uncertainty from China, a possible global economic downturn, a build-up in inventories, and a possible surge in US output may put downside pressure on prices. Meanwhile, a shortage of Russian and reduced OPEC production may tighten the supply outlook which could offer support prices.

(The author, Hareesh V, is Head of Commodities at Geojit Financial Services)