Oil is bouncing back on Tuesday after some weakness earlier in the month. Many commodities have broken lower in June.
The losses were primarily down to tighter financial conditions and fears of a recession.
Supply problems look set to persist.
Tuesday’s session continues the strong recovery off the June lows with more gains for stock markets. US stock futures are around +0.5% ahead of the open and the FTSE is leading the rally in Europe with a gain of just under 1%. Dollar pairs, however, are mostly lower with EURUSD and NZDUSD down –0.5% and AUDUSD showing relative strength with a gain of +0.17%.
Oil has been a key market for just about everything in the last year or so as it is a major contributor to inflationary pressures and the high prices are weighing on economies and markets the world over. Tuesday sees WTI back over $110 /bbl with a rally of +1.5% and weakness earlier in the month has largely been recovered.
Most commodities are lower in June which has encouraged top callers in inflation and helped other risk markets such as stocks bounce. However, the falls have been driven more by tighter financial conditions and the risk of recession rather than any improvements in supply. The situation is leading to the current strong bounce in oil and any declines aren’t likely to get very far while supply remains so tight. This also looks the case for commodity currencies such as the Canadian Dollar which has traded a range near the highs of the year for several months now.
Oil: Tight All Over
All eyes will likely remain on oil until it breaks back below the lows of the range at $94 and starts trending downwards to more comfortable levels. However, this doesn’t look likely any time soon.
G7 leaders have been meeting this week and oil prices are high on the agenda. The problem is, they don’t seem to have any realistic solutions to reverse prices lower again. So far, we have heard they are discussing a price cap on Russian oil, but that is a further attempt at hurting Russia rather than addressing supply problems. In fact, it could limit supply further.
“The idea behind the cap is to tie financial services, insurance and the shipping of oil cargoes to a price ceiling. So if a shipper or importer wanted these services, they would have to commit to the Russian oil being sold for a set maximum price,” explain Reuters.
Whether or not this will be implemented and enforced remains to be seen, but clearly it is not going to help the current supply problems.
One potential positive development could come from Iranian nuclear talks that are set to restart in the coming days. Iran does have spare capacity and an agreement could bring more supply to the market. The problem is that Iran may not be as willing to cave into western demands now that they know their oil is highly valuable.
“Given the strength in oil prices, Iran may feel that they are in a stronger position when it comes to negotiations. The sticking point in talks has been Iran wanting the US to remove the Islamic Revolutionary Guards Corp from its terrorist list. Given that talks have been on and off for the last year or so, we expect that discussions will likely be drawn out, and so we are assuming that the supply of Iranian oil will only start increasing in early 2023,” note ING.
The most realistic solution remains the current tactic: destroy demand through tighter financial conditions. It does seem to be working as June has seen some weakness in commodities, but the trade-off could be a recession. Oil will remain a key market throughout 2022 and well into 2023.