Crude oil narrative remains supply driven


  • Crude oil prices have reacted strongly to supply stories in recent times
  • This makes sense given the impact of supply on crude oil's market dynamics
  • Iran is the next big story, with investors closely watching Trump's speech later today

Crude oil prices have been benefiting from talk of supply cuts. This was particularly the case earlier this week, when Saudi Arabia announced it would cut its oil exports in November by 560,000 barrels per day. Earlier in the month, the King of Saudi Arabia traveled to Russia, marking the first ever official trip by a Saudi monarch to Russia. The two countries have seldom cooperated in the past, given Russia’s historically strong relations with Iran (Saudi Arabia’s arch enemy in the Middle East). The Saudi king’s visit to Russia is increasing expectations that OPEC will extend its supply cut into 2018. With crude oil prices stuck below $60, the largest oil producers such as Russia and Saudi Arabia have good reasons to start working together.


Supply narrative based on historical context

Looking at historical oil demand and supply in rate-of-change terms, the market has good reasons to closely follow developments in oil supply. While recent world demand growth has been fairly steady, the biggest change in the market in recent times has been on the supply side. This can be seen clearly below:

What’s changed for crude? World supply

Source: International Energy Agency, MarketsNow 


Crude oil’s year-over-over demand growth has mostly ranged between 1% and 2% per year. Demand growth hit its most recent lows in Q4 2015, following broad economic weakness in the US and China, and in Q1 2017, following sharply higher crude oil prices.

Relative to demand, world supply has been far more volatile. Back in the days of $100+ crude oil, world supply was growing at rates above 3% per year. This was primarily due to the explosive growth of US shale oil. Once supply outstripped demand by a substantial margin (starting in Q2 2014), oil prices unsurprisingly started falling. Crude oil then changed directions in Q1 2016, once demand growth outstripped supply growth, rising above its low around $35/barrel.


The next big supply story

As markets hunt for the next big supply story, expectations for supply disruptions from Iran are rising. Reuters is reporting that Trump will not certify the 2015 Iran deal a third time, although he certified it twice in recent history. He is scheduled to speak on Iran later today at the White House. If Trump fails to certify the deal, Congress will have 60 days to decide whether to re-impose sanctions on the country. While European leaders have so far raised concerns and are unlikely to follow the US’s lead (France, Germany, the EU and the UK are signatories to the 2015 agreement), even unilateral economic sanctions from the US can inflict substantial damage on Iran. Thus Trump failing to certify the Iran deal would be likely to cause higher oil prices. The prior sanctions on Iran crippled its oil exporting capabilities and its broader economy.

Given the historical dynamics of the oil market, supply has been a key driver of prices in recent years. With rising expectations of lower supply from Iran, crude oil investors will be closely listening to Trump’s upcoming speech for signs that the country will face a new round of sanctions. If Trump’s actions suggest that sanctions are coming, the supply-driven narrative behind recent strength in crude oil prices will grow stronger.

Topics: Crude oil
Tags: Trump