The Weekend Edition # 137 - Short-Term Oil Outlook

Welcome to another issue of the Weekend Edition!

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Here's what we cover

• Market Recap - What a Week!

• Macro - Short-Term Oil Outlook

• Articles of the Week

• Closing Thoughts - A word of caution

• Calendars

Market Recap - What a Week!

June 10 - June 14, 2024

What a week! The market hit another all-time high after softer-than-expected inflation data. This sparked such a strong everything rally that even the Fed’s more hawkish dot plot showing only one cut in 2024 didn’t deter. Yields dropped post the CPI release in the strongest move since last year with the 10Y hitting 4.25% and then giving back only some of that decline after the Fed. The 10Y settled at 4.316%.

What we’ve learned from the Fed - they have already factored in a higher level of inflation for 2024 and they are not concerned about material weakening in growth or jobs. So now they’re trying to set expectations.

Over the next four weeks, we have an information vacuum that could foster conditions to keep this rally going, or at least keep equities in a range, with limited downside for the next 4 weeks before earnings season starts:

• Yields back below 4.5% - This strong move lower in yields could keep this rally going, particularly if yields stay below 4.5%. Bond buyers are gradually moving into duration as well.

• Record level of Buybacks – Corporate buybacks have hit a 10-year high according to BofA and we have 2 more weeks before the buyback window closes.

• QT Taper to balance liquidity – The Fed’s QT taper kicks in from this month and that could keep liquidity balanced at a time when Treasury issuances are ramping up and the BoJ may reduce their bond purchases.

• Seasonality favors lower summer volatility in an election year leaning toward commodities

• Weaker Breadth could lead to a catch-up trade – The market breadth has been exceptionally weak with the divergence between S&P 500 equal-weight (SPXEW) and S&P 500 (SPX) at its highest since 2009. The SPX is far outperforming its equal-weighted counterpart. This lopsided positioning means there is room for other sectors & companies to catch up.

Some of the charts in the recap section have been sponsored by Koyfin. We have a special discount of 15% for MacroVisor readers for any new sign-ups to Koyfin. To take advantage of this promo please sign up here - Koyfin MacroVisor Discount

Macro - Short-Term Oil Outlook

After recent declines, oil prices have the potential to recover in the short term. Inventories are higher than expected, leading to a likely weakening of supply/demand balances after Q3, 2024.

According to the IEA, “refining margins in Asia retreated to three-year lows in May and are now close to run cut territory. US Gulf Coast refining profitability slipped back to six-month lows but remains above European levels”.

But the near-term outlook looks more balanced. The effect of seasonality and continuation of OPEC+ production cuts until Q3, should keep crude oil prices supported during the summer period.

We expect Brent to remain between $83-$85 per barrel, and WTI Crude to remain between $77-$80 per barrel for Q3, 2024. After that, with demand levels waning and the OPEC+ production cuts starting to unwind, we see a softening in prices in Q4.

Seasonality suggests global demand increases by about 3m to 3.2m barrels per day between May and August. This seasonal upswing is expected to lead to an increase in refinery runs by approximately 2.9 m barrels per day over the same period. This is why we usually see an increase in crude oil prices during the summer.

The chart below shows the seasonality for WTI Crude Oil prices for the last 20 years, and it’s clear that prices start to rise in June-July and peak in October.

In 2023, we saw the same phenomenon play out, but to more of an extreme because crude inventories were lower and OPEC+ had rolled additional voluntary cuts. Brent crossed $94/bbl while WTI crossed $92/bbl. This time however, we don’t expect the same surge given the inventory build and lower demand forecasts from China. This lower demand from China however, is forecasted to be offset by a hotter summer.

Crude oil inventories have begun to draw, with observable draws in light, middle distillates, and fuel oils. EIA sees the draw as -0.56 million barrels per day for Q3, 2024, while Morgan Stanley forecasts this reaching as much as -2 million barrels per day.

Our forecast for the deficit is about -1 million barrels per day, given the inventory build in Q2. We base our forecasts on OPEC estimates for demand and extrapolate supply based on EIA and OPEC.

This could keep prices supported throughout the summer.

Articles of the Week

Closing Thoughts - A word of caution

Although conditions may foster a supported market, we do see some risks with near-record long positioning from systematic strategies, asset managers in futures, and very concentrated holdings of Mag 7 stocks by hedge funds.

Growth is outperforming value by an extreme margin here so should yields rise again, we could see pressure on the market. Growth takes a hit with higher rates.

In essence, this is a narrow market, and if there was any tail event to play out impacting the most heavily weighted stocks in the indices, that could have a negative impact on the broader market. Right now just three stocks, AAPL, MSFT, and NVDA, make up over 20% of the S&P 500 and more than a quarter of the NASDAQ.

All aggregates of managed money are showing an increase in net long position. (NAAIM). But, we are seeing S&P Index Put Skew rising to indicate that hedging is improving.

Have a great week ahead!

Sincerely yours,

Ayesha Tariq, CFA

There’s always a story behind the numbers.

Calendars

US Earnings Calendar

US Economic Calendar in Eastern Time (Source: Trading Economics)

None of the above is Investment Advice. I may or may not have positions in any of the stocks or asset classes mentioned. I have no affiliation with any of the companies other than explicitly mentioned.