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Oil Price Forecast: WTI Susceptible to Recession Fears


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Oil Price Fundamental Daily Forecast – Stable Despite Fears of Potential  Recession

Jul 25, 2022 | DailyFX
Richard Snow, Analyst

WTI CRUDE OIL ANALYSIS

  • WTI prices tracking demand destruction and growth concerns more closely than tight supply
  • Key WTI price levels ahead of FOMC and crucial Q2 GDP (recession watch)
  • Brent-WTI spreads widen – WTI appears more susceptible to continued selling

RECESSION FEARS PICK UP AHEAD OF FOMC AND Q2 GDP
Fundamentally, oil prices have reacted more strongly to themes of demand destruction and growth concerns than to the unchanged challenges around supply constraints. This week sees a return to high impact US data, as the major event risk of the week is arguably the FOMC rate decision on Wednesday and the first look at Q2 GDP in the US on Thursday.

The FOMC meeting is largely expected to result in a 75 bps hike which would typically see the dollar remain supported however, dismal PMI data last week has placed some observers on recession watch, meaning that a rather aggressive hike could be seen as showing the economy dangerously close to a downturn. Expect volatility to increase on Wednesday going into Thursday.

The first look at US GDP for Q2 has been revised lower, from 0.9% to 0.4% which would avoid a technical recession which has been characterized as two consecutive quarters of negative GDP growth. This is in contrast to the Atlanta Fed’s forecasting tool ‘GDP Now’ which anticipates a 1.6% contraction in growth for the second quarter. The significant divergence in the two figures suggests there will be some degree of repricing depending on prevailing sentiment at the time.

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Will recession fears weigh on WTI?

Crude oil prices are firming as tight supply woes remain a concern; the Federal Reserve is set to hike, but the degree of a slowdown is unknown and if backwardation remains high, where will WTI crude end up?

1658812931659.png
Source: Bloomberg
 
 

Crude oil started the week on a positive note ahead of the Federal Reserve meeting this Wednesday, where the market anticipates that they will raise rates by 75 basis points (bps).

The rhetoric from the Fed to quell damaging inflationary outcomes appears certain to lead toward an economic slowdown. The debate is centred around the potential recession and its scope and depth.

Such a slowdown in the world’s largest economy would normally see crude come under selling pressure with dwindling demand. Due to supply side constraints, WTI has remained relatively buoyant, and this is the dilemma for oil traders.

An indication of underlying supply and demand dynamics within the oil market is backwardation. It occurs when the contract closest to settlement is more expensive than the contract that is settling after the first one.

It highlights a willingness by the market to pay more to have immediate delivery, rather than having to wait. Backwardation had been rising prior the Russian invasion of Ukraine along with the price of oil.

The chart below illustrates that the current level of backwardation remains at an elevated level and could be an indication that supply frailties remain more of a concern than the impact of a recession.

Volatility in the oil market, as measured by the OVX index, has been relatively benign and may reveal that the market is not overly concerned with current pricing.


WTI crude oil, backwardation and voltility (OVX)

1658813053767.png
Source: TradingView

Daniel McCarthy | Strategist, | Publication date: Tuesday 26 July 2022 15:25

This information has been prepared by DailyFX, the partner site of IG offering leading forex news and analysis. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients.

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