Oil slumps to start August

Edward Bell - Senior Director, Market Economics
Published Date: 09 August 2021

 

Oil prices have taken a chill to start August with Brent futures falling more than 9% since the start of the month to push below USD 70/b while WTI has fallen even further to move closer to USD 67/b. While markets have been assessing the impact of the spread of the Delta variant of Covid-19 for some time, the drop in oil appears more sudden and has shaken confidence in the near-term outlook for prices.

A key factor in the recent sell-off comes from anxiety over the sustainability of demand in coming months which is directly linked to containment of the Delta variant. PMI numbers out of major economies in Asia have been weak in recent data prints as slow vaccine rollouts force governments to impose lockdown measures to try and control the spread of Covid-19. China in particular is dealing with its worst outbreaks of Covid-19 in the past six months although containment measures there have focused on more recreational activities rather than outright lockdowns of economic activity. Not helping sentiment around demand for China was another month of relatively low oil imports, falling to 9.75m b/d in July compared with more than 12m b/d in July 2020, albeit poor weather conditions were also a contributor to lower shipments.

China oil imports flatline

Source: Bloomberg, Emirates NBD Research

Given that vaccine rollouts across much of Asia have been far slower than in many European economies or the US, the risk that the more easily transmissible Delta variant will derail growth and oil demand in Asia is high.

Weighing somewhat against that negative demand picture though is the recovery in oil demand that appears very much underway in the US. Total product supplied as measured by the EIA was up more than 23% on year ago levels as of the end of July with jet fuel demand making a noticeable recovery. Domestic travel in particular is helping to boost US oil demand close to pre-pandemic levels. But a substantial share of the US remains unvaccinated—49.7% of the US have been fully vaccinated—and the pace of vaccine rollout has slowed considerably. Case numbers have begun to move higher in the US after steadily moving lower in the spring and early summer.

While vaccines will help to provide a bulwark against the devastating economic impact of Covid-19, the fear that caseloads will escalate rapidly, straining public health systems and require governments to resort to mobility restrictions once again will be a drag on oil markets in the near term.

Compounding the drag on oil prices from demand anxieties will be the plan from OPEC+ to return barrels to the market. While the increments are relatively small—just 400k b/d per month and won’t be enough to overwhelm markets at least until the end of 2021—they nevertheless represent a consistent flow of additional supply at a time when the market may not be able to absorb it. Time spreads in both the Brent and WTI curve have crumbled, moving from nearly USD 1/b in backwardation for the 1-2 month Brent spread at the end of July to less than USD 0.40/b by the end of the first week of August.

Oil time spreads reflect demand anxiety 

Source: Bloomberg, Emirates NBD Research

Our own forecasts for Q3 pitched Brent at an average of USD 70/b and WTI at USD 65/b which allows room for sustained wobbles related to demand concern and we see no need to adjust our forecasts for the time being. Should Covid-19 cases escalate and aggravate a public health crisis in many lower vaccinated countries then the risk of a sharp demand shock could reemerge and force a revaluation in our outlook for prices for the remainder of the year.