Oil prices swing as traders assess recession fears amid supply constraints

Inflation and monetary policy tightening by central banks are driving up concerns about a contraction

Oil prices have been extremely volatile this year. Bloomberg
Beta V.1.0 - Powered by automated translation

Oil prices continued to swing around $100 a barrel during early trade on Thursday after two days of heavy losses as concerns about a looming global recession overshadowed supply constraints in the market.

Brent, the global benchmark for two thirds of the world's oil, fell to as much as $98.54 a barrel but pared losses to trade at $100.81 a barrel at 9.48am UAE time. It fell by 9.5 per cent on Tuesday, its biggest daily drop since March.

West Texas Intermediate, the gauge that tracks US crude, was trading 0.21 per cent higher at $98.74 a barrel after dropping 8 per cent and closing below $100 on Tuesday for the first time since late April.

Both benchmarks also posted declines on Wednesday.

“Oil prices extended their losing streak overnight,” said Edward Bell, senior director of market economics at Emirates NBD, with markets pricing in “recession fears and a negative demand adjustment”.

“The wipeout still looks to be very much driven by a culling of speculative longs and trend-following fast money to me, with nothing changing materially in the real world vis-a-vis the supply-demand imbalance,” said Jeffrey Halley, a senior market analyst at Oanda.

Recession concerns are growing worldwide amid mounting inflationary pressures, subsequent monetary policy tightening by central banks and the lingering impact of the Covid-19 pandemic.

“We now see a clear pivot in sentiment in crude oil. Investors went from rushing in to buy the dips, to rushing in to sell the top,” said Ipek Ozkardeskaya, a senior analyst at Swissquote Bank.

Inflation globally has risen sharply amid a steep rise in the prices of food and other commodities since the Ukraine conflict began in February.

For 2022, inflation has been forecast at 5.7 per cent in advanced economies and 8.7 per cent in emerging markets and developing economies, according to the International Monetary Fund.

To curb inflation, central banks across the world have raised interest rates, fuelling fears of an economic slowdown.

The US Federal Reserve raised interest rates by a steep 75 basis points in June, and minutes of the Federal Open Market Committee meeting, released on Wednesday, further confirmed that the US central bank remains committed to bringing inflation down, even if it means slower growth.

The risk of a global recession is “rising sharply” amid a combination of “shocks”, including the impact of the Russia-Ukraine conflict on the eurozone, pandemic-related uncertainty in China and the sharp tightening in US financial conditions, the Institute of International Finance said in a report last week.

The probability of the world economy succumbing to a recession is close to 50 per cent, economists at Citigroup said last month.

The sentiment cycle in the oil market has probably turned “earlier than expected” and could continue to pressure prices going forward, said Norbert Rucker, head of economics and next-generation research at Julius Baer.

“The market mood seems to deteriorate with recession fears weighing on prices,” he said.

Oil prices have also been affected by the rising number of coronavirus infections in China. Shanghai reported 54 local Covid infections on Wednesday, the most since late May.

This has led to concerns that the world's largest oil importer may tighten restrictions as part of its zero Covid policy, which could lead to a slump in demand.

A woman undergoes a Covid-19 test in Beijing. China's infection numbers are on the rise again. EPA

On the supply side, the American Petroleum Institute reported that US crude stockpiles increased by about 3.8 million barrels last week.

Meanwhile, the Opec+ group of oil producers agreed to increase its August output to 648,000 barrels per day, boosting supply by about 50 per cent.

“We see the fundamentals unchanged. Russian oil still finds its buyers and the earlier feared supply shortfall has not materialised,” said Mr Rucker.

“Demand looks stagnant as traffic mostly had reached pre-pandemic highs already months ago. High fuel prices will likely bring some demand destruction as households adjust their habits to save expenses.”

Meanwhile, the shale business and hydrocarbon producers continue to expand production, he said.

“With Russian oil still flowing, the shale business expanding, and demand stagnant, oil prices should eventually drop into the single digits. Any unexpected economic deterioration would only accelerate the down move,” he said.

However, the outlook for crude oil prices remains “positive”, according to Giovanni Staunovo, a strategist at UBS.

“While an economic slowdown will weigh on demand growth, oil demand has continued to hold up despite high prices,” he said.

“The desire to travel again is supporting oil demand in the Northern Hemisphere. Market participants should also focus on the supply side. Social unrest has hit production in Libya, as it did in Ecuador recently, albeit here it has almost recovered. There also remains a risk that the export terminal of the Caspian Pipeline Consortium might be shut again in the coming weeks.”

Prices could still rebound, according to Ms Ozkardeskaya.

“But it looks like the overall attention has shifted to the demand side, and that should keep the topside limited,” she said.

Updated: July 07, 2022, 6:53 AM