The new rise in oil prices has emerged as a major issue in the last 24 hours, with Brent momentarily surpassing even $91, i.e. the highest level since last October. In fact, since the beginning of the year to date, the oil price index has increased by 18%, while the benchmark WTI (argo) index has increased by 21%.
According to UBS, the latest price increase is due to new geopolitical concerns. Conflicts in the Middle East escalated further after the attack on the Iranian consulate in Syria, with the United Arab Emirates announcing the suspension of all diplomatic relations with Israel.
Also, Ukraine continued its attacks on Russia’s oil refineries in an attempt to reduce the latter’s oil revenues.
Insufficient supply
But market fundamentals also underpinned the rally, according to UBS. While Brent crude may not move significantly higher than its current level, UBS analysts believe oil prices will be supported in the short term amid a slightly undersupplied market.
In this context, OPEC+ has reiterated its commitment to comply with production cuts. The OPEC+ Joint Ministerial Monitoring Committee (JMMC) this week noted a high rate of compliance with the cartel’s ongoing output cuts, but again emphasized improving compliance for countries that have overproduced in recent months.
So the renewed focus is likely to keep the oil market underpowered, according to UBS. After all, earlier this week preliminary Reuters estimates showed OPEC production in March fell by 50,000 barrels per day from February.
If countries that have been overproducing so far compensate and cut their output, OPEC+ output is likely to fall further in the second quarter. And supply should remain tight even after the OPEC+ voluntary cuts end.
UBS’s base case scenario is for OPEC+ countries to ease some of their output cuts in June. But as it has said in the past, the cartel will not lift production cuts unless it believes the oil market can absorb extra barrels.
Also, any easing of production cuts will be gradual and will require a continued decline in oil inventories to happen, in UBS’s view. JMMC this week reiterated earlier guidance that it will “continue to closely assess market conditions” and is prepared “to take additional action at any time.” Outside of OPEC+, supply growth is forecast to slow from last year’s level.
Demand is strong
In the supply shadow, high-frequency demand indicators suggest overall oil consumption is higher than expected this year. Last month, the International Energy Agency raised its estimate for demand growth in the first quarter by 270,000 b/d to 1.7 million b/d year-on-year.
The build-up of oil inventories has also undermined the expectations of many market participants. As the US summer season approaches and global flight activity improves to near pre-pandemic levels, UBS continues to see strong demand. It also forecasts oil demand to rise to 1.4 million bpd for 2024 overall, higher than the 1.2 million bpd increase seen between 2000 and 2019.
So, as geopolitical conflict remains an ongoing risk, UBS continues to see benefits in keeping oil in a portfolio for diversification and hedging purposes. Investors with a high risk tolerance can also consider either selling the downside risk of Brent prices to generate yield or adding exposure to long Brent oil contracts.
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