China’s Covid struggles stoke fires of crude oil debate
Demand destruction fears resurface as virus sets new caseload records, writes
The crude oil market has spent recent weeks worrying about the impact on supply from Russia’s invasion of Ukraine, but China’s ongoing battle to contain the coronavirus pandemic is highlighting the return of demand destruction fears.
The number of Covid-19 infections in China jumped on Tuesday to hit a two-year high, and while the caseload is small by international standards, Beijing’s policy of zero-Covid is raising concerns of more lockdowns.
China is the world’s biggest crude importer and increasing lockdowns are likely to impact on oil demand, as well as disrupt global supply chains as manufacturers struggle to keep production going.
There are currently forms of lockdowns in the technology hub city of Shenzhen and the northeastern province of Jilin, and travel restrictions in other major centres, including Shanghai.
While these measures will take some time to show up in China’s demand for imported crude oil, they are already affecting market sentiment.
The conversation among crude oil market participants seems to have flipped from concern about the potential loss of Russian crude and product supplies, to the potential loss of demand in China.
Throw in further concerns of demand destruction amid record high retail fuel prices in many countries, especially Asia’s developing nations such as India, and it seems the market is experiencing a sentiment shift.
On the supply side, the narrative is changing as well, with increasing hopes of a deal on Iran’s nuclear programme that will allow the Islamic republic to openly sell its crude oil, as well as the potential lifting of US sanctions on Venezuela.
The shifting sentiment has been reflected in crude’s price volatility, with benchmark Brent futures whipsawing in recent sessions.
The front-month contract dropped below US$100 (3,330 baht) a barrel in Tuesday’s trade, ending at $99.91, close to the $99.08 it finished at on Feb 24, the day Russia invaded Ukraine.
Brent topped out at an intraday high of $138.13 a barrel on March 7, which was 79% higher than its close at the end of 2021. However, even with the recent slide the year-to-date gain is still a robust 28.5%.
In recent weeks the paper crude oil market has largely traded on media headlines.
It initially soared on fears Russia’s energy exports would either be sanctioned or collapse amid Western companies self-sanctioning and refusing to deal with the country that supplies about 5 million barrels per day (bpd) of crude and another 2 million bpd of products to global markets.
The subsequent pullback in prices has come as demand destruction fears took over from supply disruption concerns.
However, it’s worth pointing out that
Increasing lockdowns are likely to impact on oil demand, as well as disrupt global supply chains.
in physical market, the dual concerns that prompted so much volatility in the paper oil market are yet to manifest themselves.
The true impact of the conflict in Ukraine on Russia’s exports is likely only to be felt from April onwards.
That being said, there are early signs that self-sanctioning is cutting flows, especially for coal shipments to both Europe and Asia.
There are increasing signs that Western refiners are no longer buying Russian crude, but at the same time there are indications that price-sensitive buyers like India are willing to take more.
On the demand side, it’s possible that Chinese imports will be lower if Beijing sticks to its zero-Covid policy, but this has yet to manifest itself, with Refinitiv Oil Research estimating that March imports will be about 10.41 million bpd, which would be the most since December.
In the rest of Asia, Refinitiv is expecting India and Japan to have lower imports in March than February on a barrels per day basis, while South Korea is likely to record an increase, with the continent’s imports expected around 24 million bpd, slightly below the 24.94 million bpd from February.
Overall, it’s too early for the physical market to show exactly how much Russian supply will be lost, or re-routed to different buyers, or how much demand destruction will result from elevated retail fuel prices.
While these competing factors remain uncertain, it’s likely that volatility will continue in the paper markets.