Why this oil rally will not last

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Oil prices have recovered, with traders believing that the depth of the destruction of demand could end with the reopening of economies. But some analysts warn that the rise in oil prices may be premature.

WTI prices have doubled from $ 12 to $ 24 in just over a week. There is evidence that demand has bottomed out and started to increase from recent lows. Gasoline demand in the United States increased for two consecutive weeks, from 5.31 million barrels per day (mb / d) in mid-April to 6.66 mb / d on May 1.

On the supply side, the closures and the OPEC + deal pulled huge volumes off the market. Oil production in the United States has fallen 1.1 mb / d since late March, falling below 12 mb / d in early May.

“While it was still low just two weeks ago, when everyone was talking about negative WTI prices and overflowing stocks, optimism is now perceptible everywhere,” Commerzbank wrote in a note on Wednesday.

The rise in oil prices reflects the recovery of the broader financial markets. The Dow Jones Industrial Average has increased by almost 30% since mid-March. The Federal Reserve has channeled trillions of dollars into stocks and bonds.

But alongside the exuberance of the financial markets, nearly 33 million people have applied for unemployment. Small businesses everywhere are decimated. There is a growing chasm between the financial markets and the real economy, an unsustainable gap. Related: Saudi Arabia Raises Oil Prices As Demand Recoveries

There is something similar in the oil and gas sector. Energy stocks have made huge gains since March, although the market remains horribly depressed. And, as mentioned, oil prices have risen, despite storage levels that continue to fill. WTI under $ 30 is terrible for the oil industry, however you cut it, but the sharp price increases from two weeks ago are hard to ignore.

“We think the current euphoria in the oil market is premature,” warned Commerzbank. Highlighting the December WTI contract, which is expected to hit $ 33 a barrel on Tuesday, the investment bank said there was a limited hike here.

The exuberance in the natural gas markets, as it is, can also be exaggerated. Nymex natural gas prices have traded below $ 2 / MMBtu for much of 2020 so far, but have risen more than 30% since mid-April to reach a recent high of 2.13 $ / MMBtu on May 5. The reasons for the rally have a lot to do with closings in the Permian and planned reductions in associated gas production, as well as an explosion in the Tetco pipeline.

“While we think an increase in production lowers expectations during this period justifies gas prices higher than the $ 1.65 / mmBtu that the start of the curve showed three weeks ago, we think that NYMEX summer 2020 gas prices have exceeded, “Goldman Sachs said in a statement. Note. Related: Why Oil Is Essential To The Survival Of The United States

But the rally in crude is more obvious. “The question is not whether prices will stop rising, but when,” said head of oil markets Bjornar Tonhaugen in a statement. ” [I]It is too early for such a recovery, ”said Tonhaugen. He noted that the closings have helped alleviate the glut, but that there is still an imbalance. Additional supply reductions will be required. “Oil prices will most likely continue to drop as we move forward in May until new closings complete the puzzle,” said Tonhaugen.

There will be several lasting scars from the current crisis that will take years to resolve. ” [O]es the previous four months, stocks would have increased by more than 1,300 mb, some non-OPEC supplies will be closed and the OPEC + group will have more than 8 mb / d of available capacity, “Standard Chartered wrote in a report. “These overhangs should keep prices very low. “

More importantly, the global pandemic will not be over and the global economy will have a hard time recovering. The danger of a second wave of economy-wide infections and closures is real. “Even after a gradual recovery in economic activity, demand could remain below the level of 2019 for years to come,” said Commerzbank.

By Nick Cunningham of Oilprice.com

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