US-China trade deal may send Brent crude prices to $70 level

Crude prices ended the week on a positive note after news from Saudi Arabia that it's planning to reduce its output to 9.8 million bpd for March, over half a million bpd below its pledged production level under a global supply-cutting deal.

The March production figure means Saudi would be voluntarily cutting output by more than 5,00,000 bpd below its pledged production level under a deal between Opec and allies led by Russia. Exports would fall in March to 6.9 million bpd. Saudi Arabia produced 10.1 million bpd of crude oil in February, well below its quota under an Opec/non-Opec supply accord of 10.31 million bpd.

Prices came under strain as the reality of continued higher oil production from US set in amid a bleak outlook for economic growth, led mainly by decreased imports to and exports from China. The announcement of a trade deal remains the wild card. Prices got further pressured due to a dovish ECB and a weak trade balance data from China.


However, the selling accelerated after US non-farm payrolls report badly missed the forecasts.

Inventory report
Prices traded choppy after mixed set of data from EIA which showed that US crude oil inventories rose by 7.07 million barrels in the week to March 1, which was more than the expectations for a stockpile build of 1.20 million barrels per day (mbpd), after a decline of 8.65 mbpd in the previous week. The EIA report also showed that gasoline inventories fell by 4.23 mbpd, compared to expectations of a draw of 2.08 mbpd, while distillate stockpiles came down by 2.39 mbpd, compared to forecasts of a decline of 1.44 mbpd.

For the week, the rig count data from the US showed that oil and gas rigs fell sharply by 9 to reach 834 despite the US production ending at 12.1 mbpd – the new record set in the prior week, according to EIA. The surge in US crude supplies comes as the country’s production has risen close to 12 mbpd, up from just 5 mbpd a decade ago, thanks largely to oil supplies from shale formations that have been exploited through advances in horizontal drilling and hydraulic fracturing.

Shale
Chevron Corp and Exxon Mobil Corp released rival Permian Basin projections on Tuesday pointing to increased shale oil production. The increases would cement the pair as the dominant players in the West Texas and New Mexico field, with one-third of Permian production potentially under their control within five years.

The rise in North American production undermines the ongoing supply cut efforts led by Opec. On the import front, US states cut imports of Nigerian crude oil by 48.87 mbpd or 43 per cent in 2018. Light sweet Nigerian crude is very similar to the light oil produced in US shale. As US shale production has grown, the appetite for Nigerian crude in the US has dropped dramatically.

China demand
Crude oil and natural gas imports to China continued rising in February although they were off the all-time highs hit a few months ago. Crude oil imports stood at 39.22 million tonnes (mt), or 10.23 mbpd, which was a 21.6 per cent increase on the year and the fourth straight month of an import rate above 10 mt. The hefty increase at the end of 2018 was a result of independent refiners’ rush to fill in their import quotas before the year’s end, but now imports have remained strong even at lower quotas that the Chinese Ministry of Commerce issued in January.

China is set to become the world's largest importer for more than a month as Japan continues restarting its nuclear reactors, which will affect its LNG imports negatively and make it cede the top spot in imports of liquefied natural gas to China sooner than later. China’s total natural gas demand is expected to rise by 11.4 per cent in 2019 over 2018, slower than the growth in previous years.

Opec meet
Opec will likely wait until June to decide how to proceed with the production cuts as the initially set date for review, April, could be too soon to assess how the cuts and the supply from exempted and sanctioned Iran and Venezuela would affect the oil market.

The key factors that Opec will be watching in the next two months are how tight supply from Iran and Venezuela would be, considering that the current US waivers expire in early May. Venezuela’s production and exports are likely to further drop in coming months as the political crisis continues there.

As things stand now, Opec is likely to defer the decision from April to June and the likely scenario is to extend the agreement.

Conclusion
For this week, a tug of war between Opec-led cuts and a weakening Chinese economy has been pulling the crude prices. Officials are saying the trade talks are progressing, but the timing of any announcement is uncertain. Furthermore, US President Donald Trump and Chinese President Xi Jinping haven’t announced a meeting date.

Traders are saying negotiators are going line by line through the developing agreement. Some Chinese officials fear that Trump may walk away from negotiations if he doesn’t like the deal. However, market is assuming that if trade agreement is reached, it could send Brent prices higher to $70 in coming weeks.