Why Oil Prices Could Rise to $100 Again

**Martijn Rats** (0:00)
Welcome to Thoughts on the Market. I'm Martijn Rats, Morgan Stanley's global commodity strategist. Today, why the oil market is tightening, and why we now see Brent reaching $100 per barrel later this year. It's Thursday, September 3rd, at 3 p.m. in London.
It has been an extraordinary summer for oil. Brent, the global benchmark price for crude oil, and the reference point for most of the world's oil trade, traded above $110 per barrel in mid-May, fell to $71 by early June, climbed back above $100 three weeks later, and then dropped again to around $79 per barrel. More recently, the price have moved higher again. But the question now is whether that is just another temporary swing, or whether there is a sign that the underlying market has changed. We think it's changed. Supplies tightening, inventories are falling, and some of the buffers that helped absorb earlier disruptions are fading. The clearest evidence is in inventories. Crude oil sitting on the water fell from nearly 1.3 billion barrels in mid-July to 1.1 billion barrels recently. That was a decline of about 190 million barrels. During one four-week stretch, oil on water fell at the unusually high rate of 5.3 million barrels a day, the fastest four-week decline since this data series began about eight years ago.
Usually, when there is such a large amount of crude oil that is brought on land, it drives up onshore oil inventories. However, not on this occasion. On a global basis, onshore crude oil inventories have fallen by another 38 million barrels over the same period. That means that those offshore barrels arriving were being used straight away, rather than put into land-based storage.
The biggest supply issue is still the Middle East. Crude flows from the Strait of Hormuz briefly recovered to about 15 million barrels a day after the June Memorandum of Understanding. That was close to the pre-conflict level. More recently, however, they've been running again around about 7 million barrels a day. Now, Red Sea exports have fallen sharply from about four, four and a half million barrels per day in March and April to around about 1.5 million barrels a day at the moment. Therefore, total regional exports are still up from the lows in March and April, but they are sharply down from that late June peak. Another source of support is fading, strategic petroleum reserves. Globally, those releases added around 2.5 million barrels a day to supply in March and April. But that has fallen sharply and we do not anticipate material further releases from global SPRs after September. Then China is important too. Its seaborne crude oil imports are normally around 10 to 11 million barrels a day, but briefly fell as low as 5 million barrels a day, leaving more oil available elsewhere.
China's buying activity still appears low, but at a minimum it has stabilized and there are tentative signs of an increase. If Chinese imports have stopped falling, and possibly go into reverse, they can no longer free up additional barrels for buyers elsewhere, making the global oil market tighter.
So why hasn't crude become even more constrained? It's because of refineries. Global refinery outages are running 5 to 6 million barrels a day above normal. Although supply of crude oil is constrained, this means that demand for crude is also reduced. The result of that is that the tightness in the system has instead shown up in refined products rather than in crude. And diesel is the clearest example of this, and the one most likely to be felt throughout the economy, since diesel prices reach straight through into trucking, freight, farming costs and many other areas. The front month diesel benchmark in the US was recently around $195 per barrel, versus Brent at $95 per barrel. The difference between the value of a refined product and the crude used to make it is called a crack spread. For diesel, that crack spread reached around $100 per barrel, an all time high. Over time that gives refiners a very strong incentive to bring back capacity where they can. If they do, crude demand should rise, whilst inventories are already falling, and Middle East supply so far remains constrained.
We now expect a full recovery in Middle East supply to take well into 2027 On that path, oil inventories should keep falling throughout the fourth quarter of this year, as well as the first quarter of next year. We now forecast Brent to average $100 per barrel in the fourth quarter.
For much of this year, the oil market had several shock absorbers, strategic reserves, abundant barrels at sea, and unusually weak Chinese imports all helped. Those cushions are thinner now. That leaves less room for another disruption, just as the road back to normal supply is getting longer.