The Brent physical crude oil market, during the month of May, looked in better shape with many VLCCs fixed owing to an increase in both domestic and foreign demand; and the Asian market returned to life with many refineries re-starting their operations after the maintenance period.
Analyst Vito Turitto sees stable demand and low volatility as factors that should push Brent prices up by 2 or 3 dollars in the coming weeks.
Video Transcript
Brent crude oil volatility: June outlook
Welcome to The Snapshot – our series which examines the forces shaping and driving global commodities markets today.
The Brent physical market, during the month of May, looked in better shape with many VLCCs fixed at Sullom Voe, Hound Point, Sture and Tees terminals thanks to an increase in both domestic and foreign demand.
In fact, the Asian market began to come back to life because many refineries re-started their operations after the maintenance period that has so heavily capped prices in the month of April and the, usually higher, summer demand for clean products has clearly already had an impact on Brent prices.
The International Energy Agency has recently published a forecast stating that the global refinery throughput is expected to go up by 2.7 million b/d between July and August with refineries processing almost 82 million b/d for the same period.
It is important to point that the uptrend in Dated Brent prices has been also favored by an appreciation in Urals whose high prices pushed the attention of many market participants towards BFOE grades.
Internationally, the OPEC meeting on May 25 was the most important macroeconomic event of the first half of the year. OPEC members along with Russia decided to extend the current production cuts until March 2018 in order to accelerate the drop of crude oil stocks towards the 5 year average.
Nevertheless, skepticism keeps running high amongst market participants because, according to the US Energy Information Administration, the American shale production should achieve 5.4 million b/d in the month of June and the ever increasing availability of shale oil could easily offset OPEC’s plans, should the demand remains constant.
SPECULATORS EXACERBATED BRENT PRICES DROP AFTER OPEC MEETING
The considerable drop in Brent futures prices, soon after the OPEC announcement, was mainly caused by 3 factors: many market participants were expecting deeper cuts, an extension of the production cuts was already priced in so there were not much people left to buy and speculators playing the so-called “buy the rumor, sell the news” strategy that led to massive profit taking as soon as OPEC’s decision was released.
Dated Brent’s volatility averaged 27.9% in the month of May and it traded around 29% on May 31 despite the large sell-off that pushed prices down by more than $4. The unresponsive oscillation in volatility is clearly a signal that many market participants were probably expecting a drop in price after the OPEC announcement.
Brent’s implied volatility extracted from the premiums of average price options, remained around 28-30% during and after the plunge implying that the buying pressure on put options was far from aggressive because a market correction was largely expected.
THE SELLING PRESSURE IS PROBABLY OVER
Furthermore, the low implied volatility fluctuation also signals that the selling pressure, that dragged Brent prices back to $50/b, is likely to be over.
The probability distribution analysis shows that the current Dated Brent’s fluctuation rate has almost reached its medium term equilibrium range, which is between 30 and 35%, and that there is more than 23% chance that it will remain there.
Furthermore, it is crucial to mention that ICE Brent futures volatility is 9.7% higher than the one calculated on the Brent physical market which means that the downtrend, triggered by OPEC’s decision to extend production cuts to March 2018, was largely due to speculative trades rather than to drastic changes in the fundamentals.
Volatility cones analysis shows that the current volatility curve has finally reached the 30% equilibrium level, however, it also suggests that there is still room for a small increase in volatility.
A minor increase in short term Brent’s volatility should be expected and it could bring some short-lived market turbulence, nevertheless, it is very likely that the fluctuation rate will tend to oscillate within the 30 - 35% range favoring a slow but constant recovery of Brent prices.
POSITIVE OUTLOOK ON BRENT THANKS TO LOW VOLATILITY
The outlook on Dated Brent and Brent futures looks even more positive if we consider that during the summer time the demand for crude oil increases by almost 1 million b/d due to the holiday season.
Overall, stable demand and low volatility are all factors that should push Brent prices up by 2 or 3 dollars in the coming weeks. Until next time on the Snapshot—we’ll be keeping an eye on the markets.