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Commodities Week Ahead: China Holds Back Oil Rally in Replay of 2022

By Investing.com (Barani Krishnan)CommoditiesJul 17, 2023 05:45AM ET
www.investing.com/analysis/commodities-week-ahead-china-holds-back-oil-rally-in-replay-of-2022-200640046
Commodities Week Ahead: China Holds Back Oil Rally in Replay of 2022
By Investing.com (Barani Krishnan)   |  Jul 17, 2023 05:45AM ET
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  • China Q2 GDP shows substantial growth slowdown in top oil-importing nation
  • Doubts are growing that global oil demand will hit record highs this year
  • OPEC cannot cut its way to prosperity, not with demand vacuum, say analysts

One year ago, when the run-up in oil prices came to a sudden halt, China and its overbearing controls on COVID were blamed. This week, Beijing is again the fall guy as crude loses momentum on its three-week-old rally. This time, it’s not the pandemic but China’s great economic hope itself that’s at fault.

Second quarter gross domestic product (GDP) data from China showed growth in the world’s No. 2 economy as well as the largest oil importer slowing substantially from the first quarter.

The Chinese economy also grew at a slower-than-expected pace from the prior year, as its biggest drivers - manufacturing and real estate activity - remained under pressure.

Doubts are beginning to grow now that global crude demand will be driven to record highs this year by China's determination to rebound at all costs, including using rate cuts to spur growth.

Beijing, instead, might be heading for a “liquidity trap” if it keeps relying on accommodative monetary policy in a deflationary environment, said Kelvin Ong of the online trading platform OANDA. He went on to say,

“To negate weak internal demand and eroding consumer confidence, expansionary fiscal stimulus measures are likely to be more effective than more interest rate cuts.”

Crude prices were down more than $1 a barrel in afternoon trade in Singapore — rare for a selloff of such magnitude in Asia — as traders digested the implications of the Chinese data and what that could mean for both global trade and oil.

New York-based West Texas Intermediate crude, or WTI, was down $1.05, or 1.4%, to $74.27 a barrel by 02:45 ET (06:45 GMT). The U.S. crude benchmark rose about 8% over three prior weeks.

London-traded Brent was down $1.09, or 1.4, to $78.78 a barrel. Like WTI, Brent had also risen some 8% over the three previous weeks.

Since Friday, the oil rally has fizzled partly on some profit-taking and largely on expectations that Chinese data this week will disappoint — and disappoint big.

Not All Chinese Data Is Bad

After a strong start to the year, following the dismantling of tough COVID-19 measures, the Chinese economy has been struggling with weak demand at home and abroad and a protracted slump in the country's property market, traditionally a significant growth driver.

That could be a challenge to longs in crude and oil-producing countries in the Saudi-led OPEC, or the Organization of the Petroleum Exporting Countries, who had hoped for a long and hard summer rally.

The odd thing is not all Chinese growth data now is bad.

China’s apparent petroleum demand—refinery runs plus net oil product imports—was up 25% and 17% year-over-year in April and May respectively, according to figures from data provider CEIC. Diesel production in May was 26% higher than a year earlier, and a full 40% higher than in May 2019 before the pandemic hit.

Given how bad things are right now in China’s property sector, that is an astonishing figure. Property investment in May was 21% lower than in May 2022. At the same time, highway transport remains lackluster.

Freight turnover is still below late 2019 levels, and highway passenger transport turnover, in person-kilometer terms, is still less than half pre-pandemic levels. Domestic air traffic has recovered more rapidly but, as a portion of China’s total petroleum consumption, jet fuel remains small relative to diesel and gasoline.

The Wall Street Journal, in studying this earlier week, offered several possible explanations for the phenomenon but concluded that the simplest would be that Chinese refiners and regulators — like much of the world — misjudged both the strength of China’s recovery and the global energy market.

Production Cuts Only a Part of the Solution

Said John Kilduff, partner at New York energy hedge fund Again Capital:

“If you want to sustain this oil rally, you’re going to need the Chinese. Traditionally, they account for more than 20% of global oil demand.”

“You can’t cut your way to prosperity; that’s my message to OPEC. As much as oil bulls think any loss of demand can be made up with fewer barrels, the comfort level the market takes with demand is always greater. Tight oil is fantastic, if you can maintain it, yes. But you saw what happened after the Ukraine invasion; how quickly we lost that $140 a barrel despite OPEC trying to manage production month after month with cuts.”

In recent months, OPEC+, an extension of the cartel that includes 10 non-members led by Russia, has been slashing almost five million barrels per day in output, or about 5% of world demand.

Despite the arduous effort, largely contributed by Saudi Arabia, oil has languished at under $80 a barrel for months, compared to the 14-year highs of around $140 a barrel reached in the aftermath of the Russian invasion of Ukraine in March 2022.

In a nod to the strategic importance of China as a buyer, OPEC’s latest monthly report stated that “continued improvements in China [are] expected to boost consumption of oil.”

The oil cartel, however, offered no explicit reasoning why it thought China would be able to turn around quickly enough. 

Customs data from Beijing, meanwhile, showed a persistent and worrying story: Exports plunged 12.4% year-on-year in June — the most in three years — as higher interest rates worldwide dampened demand for Chinese goods.

Aside from Chinese GDP, this week also brings U.S. retail sales data for June that could show an increase of 0.5%, boosted by rebounding auto sales and higher gasoline station sales that suggest consumer demand remains resilient.

Investors will also get an update on the health of the housing sector with reports on building permits, housing starts and existing home sales. High mortgage rates are still weighing on sales of existing homes, but construction is improving, given stable pricing and a pick-up in new home sales due to the lack of properties on the market.

Any sign of a pick-up in U.S. consumer activity will be received with mixed feelings by oil investors — on one side, it’s jubilation that the real economy is growing and along with that, potentially demand for oil too; on the other end, it’s worry that the Federal Reserve could see that as a sign of greater inflation to come and respond with more rate hikes.

A closely watched survey on U.S. consumer sentiment by the University of Michigan released Friday showed the spending appetite of Americans at its highest in two years, a development economists said wouldn't be too encouraging for the Fed, which wishes to see a greater retreat in inflation.

**

Disclaimer: The content of this article is purely to educate and inform and does not in any way represent an inducement or recommendation to buy or sell any commodity or its related securities. The author Barani Krishnan does not hold a position in the commodities and securities he writes about. He typically uses a range of views outside his own to bring diversity to his analysis of any market. For neutrality, he sometimes presents contrarian views and market variables.

Commodities Week Ahead: China Holds Back Oil Rally in Replay of 2022
 

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Commodities Week Ahead: China Holds Back Oil Rally in Replay of 2022

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Comments (4)
Ge K
Ge K Jul 17, 2023 8:53AM ET
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Since the US consumes the most oil does Bidens spending increase the demand for more oil? Biden signed a $1 trillion infrastructure bill into law enacting a key piece of his domestic spending agenda that will funnel billions to states and local governments to upgrade outdated roads, bridges, transit systems and more. That sounds like an interesting demand for energy in order to accomplish, are there any studies that forecast that?
Barani Krishnan
Barani Krishnan Jul 17, 2023 8:53AM ET
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Hello Ge K, aside from SPR drawdowns totalling nearly 90 million barrels agreed in bipartisan fashion, I could see no forecasts for oil demand itself in the bill.
Lio Gutierrez
Lio Gutierrez Jul 17, 2023 8:53AM ET
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What do you think of the Saudis extended cuts until December 2024 to me it smells like an oil price war now don't you think barani?
Barani Krishnan
Barani Krishnan Jul 17, 2023 8:53AM ET
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Lio, I'd think that if the Saudis "raised" production instead, there'd be a higher chance of a price war.
hiiah Huuah
hiiah Huuah Jul 17, 2023 8:53AM ET
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Barani Krishnan Why can't you just admit thar oil is the most shorted commodity in the world just now
Barani Krishnan
Barani Krishnan Jul 17, 2023 8:53AM ET
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It is also the planet's most critical commodity. Therefore, it's price shouldn't be the prerogative of sellers only.
Barani Krishnan
Barani Krishnan Jul 17, 2023 8:53AM ET
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And with "sellers" , I meant producers
Igor Bock
Igor Bock Jul 17, 2023 7:53AM ET
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hilo
ابراهيم الدليمي
ابراهيم الدليمي Jul 17, 2023 5:54AM ET
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HILO
 
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