The Two Crucial Factors For Global Oil Demand Recovery

Market sentiment has been generally bullish over the last week supported by (i) supply disruption caused by Hurricane Sally in the Gulf of Mexico (ii) a draw in commercial crude oil inventories by 4.4 million barrels w/w and (iii) strong language coming from OPEC+ during the JMMC meeting last Thursday, during which Saudi Arabia pressured members to boost compliance to output cuts.

The supply disruption in the Gulf of Mexico reached around 497 thousand bbl/d. Yet, it is reported that supply will soon return as the hurricane has passed the oil production area while being downgraded from category 2 to a tropical storm. Next to the production outages, fuel demand in the affected areas is likely to have been disrupted, at least for a couple of days. Gulf of Mexico drillers, however, are already preparing for a new storm as Beta is approaching fast, potentially leading to another supply outage in the Gulf.

The OPEC+ JMMC meeting last week resulted in an extension for compensation cuts until the end of December, as many countries asked for more time to make the required output cuts. Despite the fact that Iraq has been fully compliant in August, it has not delivered its missed targets in the previous months yet. Furthermore, the UAE, Russia and Nigeria have achieved compliance rates of 74%, 95%, and 78%, respectively, according to Platts.

The overall conformity level in August was 101% according to OPEC secondary sources. Overproduction amounted to 1.641 million bbl/d, from the OPEC-10 countries and 0.734 million bbl/d from the non-OPEC countries leading to a total of 2.375 million bbl/d in overproduction between May-August. OPEC didn’t decide to change the output cut pact at this meeting. The current agreement includes cuts of 7.7 million bbl/d, Between Aug-Dec, down from 9.7 million bbl/d, between May-July.

The group is scheduled to relax its cuts further to 5.8 million bbl/d starting from Jan 2021. Currently global demand is slowly recovering, with strong Chinese imports leading the way. Global demand levels in August are around 6 million bbl/d below 2019. Chinese refining runs rose to 14 million bbl/d, up by 9.2% y/y, according to the National Bureau of Statistics, despite weak refining margins. Yet, high oil inventories in China and shrinking crack spreads are leading to softer imports in September.

Libya to restart crude exports
The market is bracing for extra supply from Libya as LNA General Haftar announced the lifting of an oil export blockade that lasted for about eight months. The blockade cut Libyan oil supply from 1.1 million bbl/d, in 2019, to less than 0.10 million bbl/d in 2020. The National Oil Company confirmed that it will start production from fields that are free of Russian mercenaries and other militants. The distribution of revenues and fears of supporting armed militias resulted in a $9.8 billion loss, blackouts and fuel shortages in the country.

The first exported cargoes are expected to come from the Arabian Gulf Oil Company which produces around 0.29 million bbl/d which is predominantly exported through the Hariga port on the east coast. Production is not expected to reach capacity anytime soon as the country’s oil industry suffers from major infrastructure issues. The OPEC+ agreement excludes three OPEC member countries; Iran, Libya and Venezuela, which leaves Libya with no restrictions on its production. Market reaction will depend on the strength of the economic recovery which may absorb extra supplies.

OPEC and IEA slash their demand forecast
The IEA and OPEC have slashed their demand forecast in 2020, projecting a decline by 8.4 million bbl/d and 9.5 million bbl/d respectively. OPEC and the IEA expect oil demand to average 90.2 million bbl/d and 91.7 million bbl/d, respectively, while our forecast stands at 90.35 million bbl/d. The EIA reported a decline in commercial crude oil inventories by 4.4 million barrels to stand at 496 million barrels. Domestic US production rose by 0.9 million bbl/ and now stands at 10.9 million bbl/d supported by a return of production in the Gulf of Mexico. U.S. oil demand now stands at 15.90 million bbl/d, up by 0.64 million bbl/d w/w.

In the meantime, demand continues to recovers in most key crude markets. Citi bank reported its forecast last week, and sees $60 price for Brent in 2021, assuming a full return to pre-crisis demand levels by the end of 2021. Yet, our latest forecast predicts a price of $45 by the end of December, $5 less than our previous forecast. Furthermore, our forecast for next year estimates an average price of $50 in H1 2021 and $52.5 in the H2 2021, assuming a partial return of aviation fuel demand leading to an average demand of 95 million bbl/d in 2021. We do not expect demand to return to its pre-crisis levels until 2023.