The Oil Market is Super Tight—But Also Not at All
Prices are rising fast but crude markets are far from healthy
Oil prices have rocketed back above $75 a barrel for the first time since 2018, bullish sentiment abounds, and market commentators are talking seriously about $100 oil for the first time since 2014 on the combination of resurgent demand and slower, less-responsive supply.
But what are the data telling us about how tight the current oil market is, really?
In short: Bullish outlooks rest on the fact that demand for crude is currently outstripping production, inventories are falling fast while non-OPEC production growth looks challenged going forward. However, today’s market remains far from healthy as those tight spot markets are entirely the result of OPEC+ market management, inventories aren’t actually that low by pre-2015/16 glut standards, and global refinery margins—especially outside the US—continue to languish in anemic territory.
Demand for crude appears to exceed current production and oil inventories are falling
On its face, the market certainly appears tight in that there is currently more crude being consumed than produced. The oil futures curve is steeply backwardated, meaning that shipments for immediate delivery are trading at a premium to later-dated cargoes.
This market structure incentivizes inventory out of storage tanks and into the market to fill the supply gap, which is exactly what we’ve been seeing. Crude inventories in OECD countries continue to fall at a rapid pace and have more-or-less completely recovered from their pandemic swelling.
Non-OPEC oil supply is responding more slowly and less forcefully than usual, if at all
Oil production prospects outside of OPEC+ remain relatively weak despite the price surge, due at least in part to the decisive shift in equity market sentiment against new oil and gas investments. Producers are facing increasing pressure to pump profitable barrels, return capital to investors, and resist pouring billions of dollars into new projects.
Recent climate activist wins—including the ExxonMobil board vote, Shell’s Dutch court-ordered emissions cuts, and the official cancellation of the symbolic Keystone XL pipeline—all embolden industry opponents and further heighten the resistance against production growth in OECD countries.
And while the ultimate outcome of these political shifts is bearish for crude as emissions-reduction policies take the reins, the near-term consequence is likely bullish for oil prices as increasingly handcuffed producers fail to respond quickly and fully to recent price spikes.
But not everything is looking so bullish.
Inventory levels remain historically high and OPEC still has a glut of spare capacity
The overall oil inventory level isn’t actually that low despite this record-fast drawdown of OECD stocks. In fact, inventory levels remain quite high by pre-2015 super-glut standards. Inventories continue to look ample—if not elevated—on a pre-2015 basis even after adjusting for higher global demand, pipeline fill, or other factors that slightly reduce the comparative inventory level but fail to materially move the needle.
Moreover, there is also the pesky detail of OPEC+’s spare capacity. The producer alliance proved invaluable in the opening months of the pandemic when it cut production by a record 10 million barrels per day to offset the demand collapse, but lots of that capacity remains on the sidelines champing at the bit to flow anew.
Refinery margins remain lacklustre globally and downright bad outside the US
But even if the market doesn’t care about still-inflated inventory levels and OPEC+ can continue to perfectly execute its gradual market re-entry, petroleum product demand could still present a near-term speedbump on the road to rebalancing.
For evidence of the continued weakness in global petroleum product demand, look no further than refining margins, especially those outside the US. While US crack spreads have rebounded convincingly as Americans jump back into pre-pandemic routines, the refining environments in Europe and Asia are far less sanguine. Global jet fuel margins remain weak for obvious reasons but in Northwest Europe and Singapore both gasoline and diesel (gasoil) margins remain notably weaker than they were going into the pandemic, with the latter in particular somewhere between 1/3-1/4 the level of late-2019.
In conclusion, crude prices have plenty of structural tailwinds behind them but some serious short-term indigestion to work through before I’d be confident in crude’s staying power above $75 per barrel, let alone $100 per barrel.
Rory, is it possible for you to share the source of your OECD oil inventory data. I am trying to find this on the EIA site and I might yet succeed, but have not had luck. I would like to follow this. Thank you for your missives. Sarah
thank you for your thoughts. can you please elaborate on rig count adjusted for efficiency? how is efficiency being defined here? bottom up rig metric or simply evaluating rigs per barrel oil produced?