WTI Crude Oil
Coronavirus pandemic put significant pressure on the oil market in 2020 but oil will start the year 2021 in decent shape.
The main supportive catalyst for oil right now is the vaccine optimism. Traders believe that mass vaccination in developed countries will soon put the pandemic under control so their economies will enjoy a strong rebound and demand for oil will increase.
While the first quarter of 2021 is set to be challenging due to continued problems on the virus front, demand is expected to gradually increase during the next quarters.
Currently, OPEC expects that the world demand for oil will average 95.89 million barrels per day (bpd) in 2021 but will reach a pace of 97.29 million bpd in the fourth quarter of 2021.
The lack of travel demand is the biggest problem for the oil market right now. In this light, the new strain of coronavirus which emerged in the UK may present a significant challenge if it spreads to other countries. In this scenario, more borders will be closed and fewer planes will fly.
However, most experts believe that vaccines should be effective against this new strain and other potential mutations of coronavirus, so any additional problems should be temporary. At this point, it looks like oil demand will be ready for a material rebound by the time the driving season starts in 2021.
The situation is also interesting on the supply side as OPEC+ will have to carefully evaluate market fundamentals as it tries to bring its production closer to normal levels. The group will increase production by 500,000 bpd in January but may have to take a pause after this increase due to soft demand in Europe.
The key task for OPEC+ is to maintain discipline despite rising oil prices. OPEC+ members do not want to provide the U.S. shale with additional market share, but recent data indicates that U.S. production is not increasing.
EIA expects that U.S. domestic oil production will remain close to the current 11 million bpd level. If this forecast is correct, OPEC+ will be able to gradually increase its production levels without putting significant pressure on the market.
I’d also note that compliance with the OPEC+ production cut deal will likely deteriorate in 2021 as OPEC+ members will try to increase their revenues but it should remain at high levels as every country understands the fragility of the current supply/demand balance.
In addition to rising demand and responsible supply, the oil market may benefit from U.S. dollar weakness. The American currency remains under significant pressure, and further downside will provide additional support to commodities, including oil.
The main risk for the oil market is the uncontrolled continuation of the coronavirus pandemic. This is a major wild card, but it looks like the current vaccination effort should be sufficient enough to bring life back to normal closer to the summer of 2021.
As usual, traders will continue to follow all developments on the inventory front. According to the recent EIA Weekly Petroleum Status report, U.S. crude inventories are about 11% above their five-year average for this time of the year, so there is plenty of work to do. When crude inventories decline closer to normal levels, oil will be able to gain more ground.
All in all, the current setup looks bullish for oil despite current problems on the demand side. OPEC+ has proven its ability to coordinate production cuts, countries have started to roll out mass vaccination programs, and inventory levels are on their way down. In this light, the year 2021 has the potential to bring good news for oil bulls.