Will oil prices remain strong for the rest of the year?

THE oil inventory trajectory anchors oil prices in the short term, and the cost of bringing on the marginal barrel of US tight oil supply serves as the mediumterm anchor for prices.

We see a significant risk of a market correction in the second half of this year as inventories begin to build again, given the rise in oil rigs in US shale markets.

The Brent and WTI time structures should become less backwinded as the year proceeds, potentially reducing the incentive for passive investors seeking a positive roll yield.

This creates opportunity in the futures market as traders are seeking to hold sherter term contracts as the forward prices becomes more attractive.

However, we see clear risks to the upside for prices as the situation in Venezuela deteriorates. In the medium term, we reckon oil prices could hover at a level of US$50 to US$60 WTI environment through out the rest of the year.

The OPEC/non-OPEC declaration of cooperation has solidified the oil market’s price floor. But in our view, the policy is unlikely to be as price stabilising in the coming year as it was in 2017, for a couple reasons.

First, OPEC cannot contain broader macro events, as we saw in early February, nor does it really have any control over output in several countries that fall under the auspices of the Declaration of Cooperation.

Thus, we reckon OPEC efforts in controlling world prices maybe in wane given the commitment from its own members as well as external influence.

Clearly, market concerns about a more hawkish US FOMC, a spike in volatility and the resulting equity market correction led to a paring back in risky positions across all asset classes.

Oil, as one of these risky assets, is far from immune. Prices reached some of their lowest levels in the past several years in August 2015 and February 2016 when financial conditions deteriorated sharply due to Chinese equity market concerns and when the Fed began raising rates, respectively.

Similar events may happen in the coming year as Chinese economic growth continues to slow, but their duration and effect on oil prices remains subject to the prevailing anchors in the oil market.

All in all, we reckon energy prices in the second half of this year will be crucial as current upside in terms of prices will start to wane and demand supply equation will point towards a oversupply situation towards the later part of this year.

We anticipate a recovery in non-OPEC supply which will drive supply higher especially coming from US as more producers both in exploration and shale continue to pump more supply into the market.