Brent’s six-month calendar spread remains in a steep backwardation, implying traders expect the market to remain somewhat tight, with continued downward pressure on global inventories, in the second half of the year.
OECD commercial petroleum inventories have fallen back in line with the pre-epidemic five-year average, according to estimates prepared by the U.S. Energy Information Administration (https://tmsnrt.rs/3gdVk8k).
But front-month Brent prices have been broadly stable since mid-February, implying traders also expect OPEC+ to raise production enough to offset rebounding consumption, ensuring the market does not tighten further.
Brent’s six-month spread is trading in a backwardation of $2.50 per barrel (the 82nd percentile for all trading days since 1990), down from $4.20 (96th percentile) on March 5.
But the front-month futures price has increased just 4% over the last two months (58th percentile), down from a 24% increase (96th percentile) in the two months to March 5.
Prices appear to have reached a temporary peak after rallying strongly for more than three months between the start of November and the middle of February.
The oil market is likely to remain adequately supplied for the remainder of the year if prices stay around $65 per barrel, which would be very close to the long-term average over the last two or three decades in real terms.
Prices at this level would continue to encourage a modest increase in drilling by shale firms and a rise in production through the rest of 2021 and into early 2022.
But U.S. output increases would likely remain gradual and should be absorbed by the return of consumption as the epidemic passes and travel controls are relaxed, posing little threat to the market share of OPEC+.
If prices rise much above this level, the production response from the shale sector is likely to accelerate, posing a threat to OPEC+ share, something the group appears keen to avoid.
Iran, not currently subject to the OPEC+ production limits because it is under U.S. sanctions, has already been adding extra barrels to the market since the start of the year through covert sales to refiners in China.
Rising covert exports helped ensure the market remained well-supplied during the first quarter, offseting some of the production restraint by the other members of the group.
Provided restrictions on passenger aviation are gradually eased in the second half of the year, there should be enough consumption growth to absorb increases from U.S. shale, Iran and the rest of OPEC+.
However, that delicate equilibrium depends on travel curbs being substantially eased in the next six months, and prices remaining close to current levels so as not to kindle a third shale boom.