THE Covid-19-battered global economy slid into a severe recession in 2020, contracting by 3.2% as global markets turned more sensitive with high volatility seen from risky assets, including stocks, to safe havens such as gold.
Stepping into 2021, with the development and distribution of vaccines, coupled with stimulus measures, global growth is projected at 6.0% albeit the widening gap between the advanced economies and many emerging market and developing economies. The outlook for 2022 remains positive with global gross domestic product projected at 4.9%.
The positive global outlook has helped allay fears in the markets, although uncertainties remain. While the world economy will eventually recover from the slump of 2020, the impact of the ravaging Covid-19 cannot be underestimated. Also, global trade is being reshaped by geopolitical risks. These factors stoked widespread concerns among investors about the prices of the four major assets – gold the US dollar, crude oil and stocks.
Crude’s V-shaped recovery in 2020
Oil prices started on a strong note in January 2020, touching US$70 (RM297) per barrel for the first time in over three months following jitters over the escalating military tensions between Iran and the United States. This came about after the United States assassinated Iranian general Qassem Soleimani. The Brent ended at US$68.60 (RM291) a barrel on Jan 3, the highest level since the mid-September attack on Saudi oil facilities. Eventually the tension eased between the two countries.
The shortlived calm was shattered when Covid-19 which declared as a pandemic on March 11, triggering an unprecedented demand shock in the oil industry. Drastic measures taken to contain the virus lead to a historic market collapse in oil prices.
The demand for oil cratered as governments around the world shuttered businesses, issued stay-at-home mandates and restricted travel. Reduced economic activities created excess supply and hammered oil prices. This is despite the Opec’s agreement to reduce production levels.
On April 20, the May 2020 contract futures price for West Texas Intermediate (WTI) plunged from US$18 (RM76) a barrel to around -US$37 (-RM157) barrel. This was followed by Brent crude oil tumbling to US$9.12 (RM38) a barrel on April 21, a far cry from the US$70 (RM296) a barrel fetched at the start of the year.
Adding to the freefall in oil prices was the oil price war between Saudi Arabia and Russia, which broke out on March 8 after the two countries failed to agree on oil production levels. The month-long price war ended in April when Opec and its allies agreed to cut overall crude oil production by 9.7 million barrels per day for an initial period of two months starting May1. It is the single largest output cut in history. Oil production was limited to 7.7 million barrels per day from July 1 and continued through Dec 31, 2020.
As summer approached, the oil markets started to shift as nations began to emerge from lockdown. With the year progressing into the the second half (H2) of 2020, market expectations grew that Opec would continue to limit or delay production increases slated for 2021. Supported by improving economic activities with confidence from the rollout of vaccine plus on Dec 3, Opec+ announced it would voluntarily adjust production by 0.5 million barrels per day from 7.7 million barrels per day to 7.2 million barrels per day starting January 2021 buoyed the market.
Brent and WTI averaged at US$44 (RM186) and US$41(RM173) a barrel, respectively in H2 of 2020 versus US$42 (RM182) and US$37 (RM157) a barrel, respectively in the first half of 2020. For the full year, WTI and Brent averaged at US$39 (RM165) and US$43 (RM182) a barrel, respectively.
How high will crude oil go in 2021?
For the first seven months of 2021, on average, Brent oil prices surged more than 50%, rallying towards US$80 (RM339) a barrel for the first time in more than two and a half years.
But the uptrend in oil prices skidded for sixth conductive day starting Aug 12. Investors are worried about the outlook for fuel demand as Covid-19 cases surge worldwide just as more supply reaches the market from large global producers, including the US Brent crude ended down to US$68.23 (RM289) a barrel.
The global benchmark has lost 6% in the last 13 trading days dating to the end of July. WTI fell by 8% to US$65.46 (RM277) a barrel over the same period.
The outlook for oil prices remains challenging. There are possibilities for oil prices to average around US$80 (RM339) a barrel in H2 of 2021 with spikes supported by demand-led recovery to pick up speed.
However, the positive trend could come to an abrupt end if central banks start increasing interest rates unexpectedly because of inflation. It could also happen if Opec raises production above demand or it fails to accommodate extra Iranian barrels when the Persian Gulf Opec member returns to the market.
However, the prospect of Opec+ failing to accommodate additional Iranian oil exports looks unlikely at the moment.
A number of other uncertainties also continue to cloud the outlook. The spread of the Delta Covid-19 variant worldwide has exacerbated concerns of a setback to oil demand while the potential of Iranian exports returning to the market remains unclear. Besides, renewed lockdown measures and rising costs have already resulted in slower factory growth in China.
Nevertheless, we expect Opec+ to fully comply with the agreement during H2 of 2021. Opec’s crude oil production would remain lower than calls on Opec through the third quarter and fourth quarter of 2021. This quarter, demand for Opec’s oil will exceed production by 1.0 million bpd. However, this difference will drop to 300,000 in the fourth quarter. The cartel’s output would average around 33.0 million bpd in H2 of 2021.
Meanwhile, we feel the crude oil market is testing price levels that the market could tolerate before these could put a lid on demand growth. While this is something that is tough to gauge, our estimation is around US$80 (RM339) a barrel.
Anything above that will have adverse implications for economic growth as there a fair bit of demand destruction could kick in.
Thus, we expect Brent to briefly test the high of US$70 (RM297) a barrel before European buying could start to wane and the potential return of Iranian barrels. That should see Brent price retracing to the low US$70 (RM297) level. We expect Opec to hold prices above US$70 (RM297)/pbl in 2021. Nevertheless, our forward curve suggests the fair value to be slightly below US$70 (RM297) a barrel i.e. around US$68 (RM288) a barrel.
For FX enquiries, please contact:
ambank-fx-research@ambankgroup.com.For Fixed Income enquiries, please contact: bond-research@ambankgroup.com
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