Oil drops as China demand concerns weigh on Russia supply fears

Prices fall as Beijing's Covid restrictions cloud outlook for investors

Oil posted a second consecutive weekly gain at the end of last week. Bloomberg

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Oil prices dropped on Monday as the impact of a slowdown in demand in China, the world's largest oil importer, weighed on the EU's ban on Russian crude, which is expected to further tighten supplies.

Brent, the global benchmark for two thirds of the world’s oil, slipped 1.23 per cent to $111.01 a barrel at 1.27pm UAE time on Monday.

West Texas Intermediate, the gauge that tracks US crude, was trading 1.45 per cent lower at $108.18 a barrel.

“Continued focus on a slowdown in China helped prevent crude oil prices from surging higher after the EU announced steps to remove its dependency on Russian crude and distillate products over the coming months,” said Ole Hansen, head of commodity strategy at Saxo bank.

“Stockpiles of middle-distillates in Singapore and New York, two major trading hubs, declined further, amid a worsening global shortage, especially for diesel, the workhorse of the global economy. The drop in Singapore, despite China’s lockdowns, reflects a pickup in Asian consumption outside of China.”

The G7 — the UK, US, France, Germany, Italy, Canada and Japan — issued a five-point plan that aims to phase out Russian energy imports and introduce measures aimed at key services that Russia relies on.

The EU, the world’s largest trading bloc, last week revealed plans to ban Russian oil over the next six months, and refined fuels by the end of the year. However, the proposal has yet to be officially approved by the EU Parliament.

“Crude oil kicked off the week under positive pressure, as leaders of the G7 nations pledged to ban Russian oil on Sunday,” said Ipek Ozkardeskaya, a senior analyst at Swissquote Bank.

Oil prices, which have been extremely volatile this year, posted a second weekly gain at the end of last week, with Brent settling 1.34 per cent higher at $112.40 a barrel at the close of trading on Friday while WTI was up 1.39 per cent at $109.80 a barrel.

“The Russian oil embargo currently being mulled over by the EU would tighten global crude markets and, unprecedentedly, shift trade flows,” said Bjornar Tonhaugen, head of oil market research at Rystad Energy.

“The repercussions of the embargo would be comprehensive and wide-ranging, pushing oil prices higher in the short to medium term. As the sanctions are negotiated, crude prices will stay elevated as war-related uncertainty persists and summer demand kicks in over the coming weeks.”

However, there is growing concern about slowing consumption in China, which is seeking to stamp out coronavirus infections as part of its zero-Covid policy.

Shanghai and capital Beijing have imposed strict movement curbs over the past few weeks, denting energy demand.

Saudi Arabia also cut prices for its Asian crude buyers in June amid expectations of slowing demand, analysts said.

The kingdom “lowered all grades for the north-west Europe region and almost all for the Mediterranean as well”, Ms Ozkardeskaya said.

However, crude is expected to maintain the current price levels, supported by the Biden administration's move to refill strategic petroleum reserves in the US and the EU's continued efforts to ban Russian oil.

About 3 million bpd of crude imported by the EU from Russia could be reduced by December this year if the ban comes through, said Rystad Energy.

“The reduction in crude imports will likely be backloaded, as the supply tightness towards the third quarter of the year will likely hamper EU refiners’ ability to source replacement barrels sufficiently as refineries globally ramp-up for the summer demand peak amid very low products stocks,” said Rystad's Mr Tonhaugen.

“Some reductions will occur though, tightening the third-quarter market for replacement barrels from regions such as the North Sea, the US, West Africa and the Middle East, which the market is already starting to react to in the past couple of days.”

“We expect oil prices to remain elevated — both due to the negotiations, still present wartime oil price risk premia and summer demand, even as macro headwinds gain speed.”

Meanwhile, analysts expect crude supply to be tight, a move that could support prices.

“We stick to our wide $90 to $120 range call for Brent during the current quarter while maintaining the view that structural issues, most importantly the continued level of underinvestment and Opec’s struggle to increase production, will continue to support prices over the coming quarters,” said Mr Hansen.

“Next week, monthly oil market reports from the EIA [Energy Information Administration] on Tuesday, Opec and the IEA [International Energy Agency] on Wednesday will be watched closely for clues about the current supply and demand situation.”

Updated: May 09, 2022, 11:24 AM