HOUSTON - When oil jumped above US$90 a barrel just days ago, military tensions between Israel and Iran were the immediate trigger. But the rally’s foundations went deeper – to global supply shocks that are intensifying fears of a commodity-driven inflation resurgence.
A recent move by Mexico to slash its crude exports is compounding a global squeeze, prompting refiners in the US – the world’s biggest oil producer – to consume more domestic barrels.
American sanctions have stranded Russian cargoes at sea, with Venezuelan supply a potential next target. Houthi rebel attacks on tankers in the Red Sea have delayed crude shipments. And, despite the turmoil, the Organisation of the Petroleum Exporting Countries and its allies, known as Opec+, are sticking with their production cuts.
It all adds up to a magnitude of supply disruption that has taken traders by surprise.
The crunch is turbocharging an oil rally ahead of the US summer driving season, threatening to push Brent crude, the global benchmark, to US$100 for the first time in almost two years.
That is amplifying the inflation concerns that are clouding US President Joe Biden’s re-election chances and complicating central banks’ rate-cut deliberations.
For oil, “the bigger driver right now is on the supply side”, Dr Amrita Sen, founder and director of research at Energy Aspects, said in a Bloomberg Television interview. “You have seen quite a few pockets of supply weakness, and demand overall on a global basis is healthy.”
Oil shipments from Mexico, a major supplier in the Americas, slid 35 per cent in March to their lowest since 2019 as President Andres Manuel Lopez Obrador tried to make good on promises to wean the country off costly fuel imports.
The country exports so-called sour crude – the heavy, dense kind that many refineries are designed to process – which now stands to shrink even further as state-controlled oil company Pemex has cancelled some supply contracts with foreign refiners, Bloomberg News reported last week.
That decision has roiled oil markets around the world. Mars Blend, a medium-density sour crude from the US Gulf Coast, has in recent days risen to a multi-year premium over lighter West Texas Intermediate (WTI), the national benchmark.
Mars usually trades at a discount to WTI. Brent crude hit US$90 a barrel on April 4, the highest since October, and extended gains on April 5. JPMorgan Chase and Co has said it could hit US$100 by August or September.
Before Mexico’s move, there was a sequence of supply disruptions both large and small. In January, a deep freeze ate away at crude output and inventories in the US at a time when they would normally grow, keeping stockpiles below seasonal averages through late March.
Mexico, the US, Qatar and Iraq cut their combined oil flows by more than one million barrels a day in March, tanker tracking data compiled by Bloomberg shows. Baghdad has pledged to limit output to make up for non-compliance with prior pledges to Opec+.
Crude markets in Europe, meanwhile, were pressured higher by the Houthi attacks, which sent millions of barrels of crude on a detour around Africa, delaying some supplies for weeks.
Disruptions to a key North Sea pipeline, unrest in Libya and a damaged pipe in South Sudan also contributed to the rally, while US sanctions have deprived Russia of tankers that previously transported its oil to buyers including India.
The supply pinch could become even more acute in the weeks ahead. With Venezuelan President Nicolas Maduro showing no sign of heeding promises to move towards free and fair elections, the Biden administration could reimpose sanctions in April.
It is a stark contrast from just a few months ago, when oil plunged to multi-month lows as US production climbed and Russian seaborne crude exports ratcheted higher despite sanctions, which have since been expanded.
The US Energy Information Administration, after forecasting global inventories to remain unchanged in this quarter, now predicts they will fall by 900,000 barrels a day. That is the equivalent to the production from Oman.
The supply squeeze comes as demand is ramping up. US refiners are preparing to boost fuel production for the summer, when millions of Americans take to the roads and petrol consumption peaks. Petrol stockpiles on the populous US East Coast are tightening, and manufacturing activity in the US and China is also signalling a boost in fuel use.
In Asia, refining margins are around 50 per cent higher than the five-year seasonal average, suggesting healthy demand.
Crude’s rally has snarled the Biden administration’s plans to refill emergency US oil reserves, which reached a 40-year low following an unprecedented drawdown after Russia’s invasion of Ukraine.
It is also a political risk for Mr Biden, as prices for food and energy remain stubbornly high.
Oil’s advance threatens to push retail petrol, now near a daily national average of US$3.60 a gallon, towards US$4, a key psychological level. That is contributing to concern that commodities will reverse the recent slowdown in consumer price gains.
Oil prices are now boosting US inflation, after subtracting from it at the end of 2023. That may be evident again in the March consumer price index due on April 10, as the overall consumer price index is seen accelerating on an annual basis, while the core measure that excludes food and energy is expected to tick down. A Bloomberg index of key commodities has reached the highest level since November.
The crude price surge could ultimately force Opec+ to dial back some production cuts, said Mr Vikas Dwivedi, a global oil and gas strategist for Macquarie Group.
And oil substantially above US$90 can lead to global demand destruction and ultimately lower prices, according to JPMorgan. But so far, there is little sign of that happening yet.
“It is a market on firm fundamental footing, no question. I think US$100 oil is entirely real – it just requires a little more risk pricing on the true geopolitical risk,” said Mr Bob McNally, founder of consultant Rapidan Energy Group and a former White House adviser. BLOOMBERG
