
Oil prices have been subject to big swings this year. Since June, though, fundamental demand factors have been supportive, and with global economic growth firming, the outlook for oil is bright.
The significant — and surprising — midyear crude oil price selloff was triggered at the beginning of June by China’s Caixin PMI for May, which showed a contraction in monthly manufacturing activity for small and medium-sized manufacturers. The risk that Chinese growth might stall was too great for oil traders to ignore, and prices fell hard. But the country’s manufacturing has been on an expansionary path since. And the outlook for the biggest net importer of crude has strengthened.
This has been a good week for Chinese and global economic outlooks, which improved as the International Monetary Fund revised upward its global GDP forecasts for 2017 and 2018 by 0.1 percentage point to 3.6 and 3.7 percent, respectively. More importantly, there were upward revisions to Chinese GDP growth forecasts for 2017 and 2018, which followed previous upward reassessments to the IMF’s China forecasts in July.
There is wide suspicion of China’s GDP numbers, which is why I prefer to look at the monthly Caixin Manufacturing PMI to gauge the health of manufacturing — and its implications for commodity demand and prices. But two consecutive upward revisions to IMF forecasts of Chinese GDP provide confirmation of the improvements in the Caixin and other data. That is why the improved expectations reflected by these upward revisions are likely to be important for industrial commodity and oil prices.
In addition to trading technicals, and improved global growth, the supply side of the oil market has also become supportive of prices. Inventories have been falling and the potential for global inventories to decline is high. There has been wide compliance with combined OPEC and non-OPEC oil production cuts. Plus, even Department of Energy reports show that US petroleum inventories are down through the week ending September 6 compared with a year earlier.
Aside from modest year-on-year declines in gasoline and crude oil inventories, US distillate inventories (which include diesel and heating oil), are 14.7 percent below 2016 levels, and they are below the average distillate level between 2012 and 2016. This deficit is likely to ensure that the changes in US petroleum product inventories will remain important through the winter. In fact, these distillate inventory dynamics were among the highlights in OPEC’s October Oil Market Report.
Meanwhile, WTI crude oil price trading patterns have also become supportive. WTI wrapped up a choppy third quarter, as storm-related refinery disruptions initially sapped demand, but the impact of Hurricane Harvey subsequently widened refinery margins, financially incentivizing higher global refinery demand for crude oil, which sent prices higher. The induced swings in fundamental U.S. Gulf Coast refinery demand were unable to stop the technical trend of improvements in WTI crude oil prices.
In the past month, WTI crude oil prices converged with critical moving averages. Meanwhile, trending technicals also converged, as a trend of lower highs in place since February was broken by a countervailing trend of higher lows in place since June. The post-convergence technical breakout to the upside indicates there are gains ahead for crude prices, despite weak seasonal post-driving-season demand (known in the oil patch as “shoulder demandâ€).
Supportive price technicals, including the recent WTI breakout to the upside, have followed the lead of price-supportive Chinese demand and US inventory fundamentals. When OPEC members meet next month, they may not need to extend production cuts to keep oil prices supported. Continued Chinese growth, supportive trading technicals, and the risk of cold weather may do it for them.
— Bloomberg