Higher Q3 oil demand amidst OPEC+ supply cuts
Crude oil prices have been declining this year due to various factors impacting global trade. OPEC+ has taken measures to stabilize prices by cutting production, reassuring traders that there is a limit to how far prices will fall. In June 2023, OPEC+ members agreed to extend production cuts until the end of 2024, potentially creating a positive market sentiment for the third quarter of 2023. OPEC forecasts indicate a slight improvement in oil demand for both OECD and non-OECD regions during this period.
China to dominate demand-side factors
China’s economic recovery after lifting COVID-19 restrictions has been less robust than expected, as indicated by recent economic data releases. On the positive side, inflationary pressures have remained low, allowing the People’s Bank of China (PBoC) to implement rate cuts to stimulate the sluggish economy. These rate cuts have already begun and are expected to continue throughout the year, providing an opportunity for commodity prices to rally. However, major institutions, including Goldman Sachs, have revised down their forecasts for the Chinese economy. Market participants are hoping for more significant rate cuts than the recent 10 basis points reduction in order to regain optimism about China’s rebound. Key indicators such as manufacturing, exports, housing, unemployment, and retail sales will be closely monitored for signs of a turnaround.
Where to next for the USD?
The relationship between crude oil and the US dollar is expected to be significant in the upcoming quarter, particularly as the Federal Reserve approaches its peak interest rate. While there is a discrepancy between the guidance provided by the Fed and the pricing in the money market, it is widely recognized that the current cycle is nearing its terminal rate. Despite higher-than-expected core inflation, lower overall inflation has been the recent trend. Certain Fed officials now support a more cautious approach to monetary policy, which could potentially support oil prices. Currently, implied interest rate expectations suggest a possibility of one more 25 basis points hike, but weak US economic data could lead to the removal of this potential rate increase from consideration by the Fed.
The US, European and Asia enter their summer period which generally leads to higher crude oil demand as consumption increases. Cooling usage tends to pick up as more energy is required and with the lesser supply by OPEC+, higher demand and lesser supply could bolster oil prices.
- Hurricane Season
Alongside the summer months, the Gulf of Mexico region will face its annual hurricane season in Q3 which could disrupt supply production and systemically result in higher oil prices.
Potential Risks limiting crude oil prices
- Central Banks
Should global central banks maintain their broadly hawkish rhetoric by persisting with an aggressive monetary policy and constraining consumer spending and demand for goods and services, demand for oil may dwindle leaving little room for upside support.
Russia’s inclusion in the OPEC+ consortium has been rather contentious lately as the war in Ukraine drains its coffers. Russia needs to maintain a high level of oil exports to fund the country’s regular activities on top of any war-associated costs leaving Saudi Arabia and Russia at loggerheads in terms of their primary objectives. A close eye should be kept on the relationship moving forward but for now, these two major players seem to be publicly amicable.
Recessionary fears are being mentioned more and more by analysts across the globe but for the purpose of Q3, this may be too soon to call. After global markets averted a banking crisis and the US shows signs of resilience, this factor may be more relevant to Q4 and beyond.
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