Oil trading turns volatile on Gulf tensions and China slowdown

Oil prices had a volatile day, prompted by competing influences from rising Saudi Arabia-Iran tensions and further evidence of economic slowdown in China.

The benchmark North Sea Brent crude futures contract gained more than 3 per cent early on to US$38.50 per barrel, but retreated to stand as low as $37.03 before rising again. In late afternoon trading Arabian Gulf time on Monday it was up 2 per cent at $38.03.

The market sentiment was swayed by news of rising tensions between Saudi Arabia and Iran after the execution of a Shia cleric in the kingdom was followed by a storming of the Saudi embassy in Tehran.

Saudi Arabia, followed by Bahrain and the UAE then downgraded diplomatic relations with Iran.

The influence of those events on the market was later tempered by reports that indicated China’s economy was slowing.

Although the volatility was heavy during the session, the price move wasn’t great in the context of the market’s overall bearish tone.

Brent futures prices have been ratcheting down since summer 2014’s high above $115 a barrel to average in the high $50s in the early part of last year, then down again sharply after the summer when it became clear there would be no quick relief to the world’s oil glut.

Prices hit a fresh 11-year low just a week ago at $36.11.

The futures market ended last year with very large positions by speculators betting on further losses, which makes it vulnerable to a sharp rise if there is any unexpected disruption to supply. But analysts said the fundamental position remains unchanged – that the oversupply looks likely to continue through at least the early part of this year before world oil inventories stop building later in 2016.

The data from China on Monday, showing the widely watched Caixin/Markit China Manufacturing Purchasing Managers’ Index (PMI) fell to to 48.2 last month, from 48.6 in November, when surveyed analysts showed they were looking for a rise to 49.

It was the 10th straight month of shrinking manufacturing and added to the worries that China’s slowing economy would lead to lower demand for oil and other commodities.

“The oil rally clearly has nothing to do with fundamentals,” said Hussein Al Sayed, the chief market strategist in the Middle East for IG, the market spread play outfit.

“The Saudi-Iranian conflict didn’t reach a stage to threaten supplies through Strait of Hormuz,” he said. “Status can be described as still in a Cold War situation, although looking to be somehow hotter in the past 48 hours, otherwise at least 10-15 per cent would be priced as risk premium.”

On the other hand, the Chinese data “will continue to remind investors of the risks of emerging markets slowdown into 2016”, Mr Al Sayed said.

The dominance of the fundamental supply-demand situation was underlined by the head of BP, Bob Dudley, in an interview at the weekend.

While loath to predict oil prices, Mr Dudley said the likely scenario this year is “I think a low point could be in the first quarter – a number with a three in front of it, $30s is probably right. And then the natural supply-and-demand balances come back in third, fourth quarter of 2016, and then the stock levels start wearing off.”

The view reflects what most analysts expect for the year ahead.

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