Crude Oil: Is Ukraine really a prop?

Effectively, the spread between WTI and Brent is hovering around US$8/bbl, as compared with the gap of US$4-6/bbl during the month of April.

May 19, 2014 3:52 IST | India Infoline News Service
Ukrainian crisis pre-dominated the market attention, with the ever evolving geopolitical situation benefitting Brent oil more than WTI crude. Effectively, the spread between WTI and Brent is hovering around US$8/bbl, as compared with the gap of US$4-6/bbl during the month of April. The accord between Russia, Ukraine, US and EU lost track, with pro-Russian separatists showing no inclination of disarming themselves or relinquishing illegal control over government buildings. Consequently, US expanded the list of people whose assets will be frozen and who will be denied travel visas. EU has also drawn up a list of addi­tional names on which various sanctions will be enforced. In the latest, pro-Russian rebels in eastern Ukraine defied the appeal by Russian President Vladimir Putin to procrastinate the plebiscite on secession and went ahead with the vote.

The authorities in the region declared that overwhelming majority of the votes demanded separation from Ukraine and ensuing confederation with Russia. Markets are now keeping an eye on the key May 25th elections in Ukraine. Kiev is appealing to EU and US to consider imposing tougher sanctions against the Russians considering the palpable signs of Moscow trying to undermine the political situation in the country. Meanwhile, German Chancel­lor Angela Merkel and French President Francois Hollande stated that they will enforce further sanctions against Russia if there are disruptions during the significant elections in Ukraine to form a new government.

The sanctions game is heating up now, with Russia also announcing that will it refuse US the access to the International Space Station beyond 2020. Russians will also bar US from using Russian-made rocket engines to launch military satellites. The crisis could escalate further if Russians decides to stop energy supplies to both Europe and Ukraine. Russia is already demanding Ukraine to pay all its outstanding bills by June 2nd. Nevertheless, Saudi Arabia has soothed supply concerns to an extent by stating that it may increase oil output in order to compensate for any production losses emanating from Russia-Ukrainian tensions. On Iran issue, nuclear talks between Teheran and western nations seem to be slow and there are no strong signs of any progress. Talks are expected to resume at an unspecified date in June with a July 20th deadline in place.

On fundamental front, ramp up in US oil production has opened up the possibility of US regime lifting the ban on crude oil exports in the foreseeable future. On the demand side, IEA reported that 2014 world oil demand would grow slower than the previous estimates. The agency now expects global demand growth to average 1.29mbpd this year, 60,000bpd lower than its previous forecast. On supply side, Libyan rebel group in the eastern part of the country struck a deal with the government to end its illegal control of vital oil ports, bringing end to nine-month impasse.

The government has reached an agreement with protesters to reopen the western El Sharara, El Feel and Wafa oilfields and the pipelines connecting them to the Zawiya port. El Feel and Wafa oilfields have restarted production and is moving slowly to restore some output. However, El Sharara, the largest oilfield with a capacity of 340,000bpd is still closed as rebels have not yet opened the pipeline valve to the port. The restart of Libya's all eastern oil ports can release about 550,000bpd of crude, enhancing the country’s output from the current level of 200,000bpd to around 750,000bpd. However, the elevated output will be still far behind the levels of 1.4mbpd witnessed during July last year.

Although new sanctions on Russia do not yet spell stringent restrictions on the financial and energy sectors, the looming threat of more sanctions will persuade market participants to adopt a wait and watch approach. In this respect, US is planning to strengthen NATO and impose sanctions on Russian energy and important financial institutions. Counterbalancing variables will continue to prevail, with lingering Russia-Ukraine tensions enacting as tailwind amid the headwinds of expanding US oil supply and slowing economic growth in China. On the other hand, one also needs to understand the fact that markets do not like prolonged events as it loses its significance with the passage of time. History has been proof of how hot burning issues have been relegated to the backburner. Ukrainian saga also seems to be of the same genre.

We expect a familiar price range during this month as well. Specifically, prices will be confined in the trading range of US$98-$104.5/bbl. On trading perspective, we advocate selling moderately above the current levels, as prices are proximal to higher end of our range.

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