Crude oil forecast: China lockdowns temper demand as US supply increases

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WTI crude oil surrenders recent gains, falling more than 25% from last week’s high and oil market’s demand-side expectations take a hit on Chinese cities locking down.

Source: Bloomberg

 

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It's been quite the month for commodities, and oil is no exception. WTI Crude prices began March at 96.10 a barrel before rising as high as 129.42, which was the highest level traded at since July 2008. Prices have since surrendered those gains, moving back to around 96 a barrel. That marks a drop of more than 25% in just over a week. The surge to that July 2008 high was ignited by Russia’s invasion of Ukraine and the subsequent volley of Western sanctions. Those sanctions remain, and Russia’s assault into Ukraine has only advanced.

The sharp pullback suggests that much of the geopolitical risk premium has evaporated despite the remaining conflict. China’s recent lockdown of its coastal cities, including the manufacturing hub Shenzhen, has also helped to tamp down on prices. China is a major oil importer, and the reduced demand from those lockdowns has helped to ease prices. The potential for further lockdowns in China may also be a factor helping to temper near-term demand expectations.

Meanwhile, US oil production continues to increase. US oil rigs rose to 527 from 519 for the week ending March 11, according to Baker Hughes data. That is the highest level since April 2020, although oil production per rig is down. The decreased production is an unfortunate side effect of shutting down and restarting rigs – it decreases the efficacy. Still, the numbers are encouraging, but it will take time for production to increase to a point where prices would fall much further.

In fact, the US Energy Information Administration (EIA), in its March 2022 Short-Term Energy Outlook (STEO), forecasted WTI prices to average $112 per barrel for the second quarter (April, May, June). That’s around 16% higher than current levels. That said, demand-side issues are likely to drive prices for now while supply slowly but surely increases.

The fundamental upside risks for prices would be if China pulls back from its zero-Covid policy and stops restrictive measures, which would reignite demand prospects from the world’s second-largest economy. Friday will see another weekly US rig count update from Baker Hughes. The recent price surge may have producers attempting to speed up the pace of bringing rigs back online. The weekly percent change in US oil rigs is displayed in the chart below.

Source: TradingView

Follow Thomas Westwater on Twitter @FxWestwater

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Thomas Westwater | Analyst, DailyFX, New York City
17 March 2022