By Barani Krishnan
Investing.com — The Oil-War story ended the week with a political cliffhanger as gripping as its crude price move – which had Wall Street as absorbed as any move on the S&P 500.
Just before markets wrapped Friday, the White House announced that it was mulling a ban on Russian oil, putting itself once again into the risky position it has tried to avoid since the start of the Ukraine invasion.
We all know why the U.S. – or for that matter, any of its allies – haven’t put an embargo yet on Moscow’s oil and gas exports, despite sanctioning the hell out of almost every financial transaction the Kremlin and its oligarchs have tried to do (which indirectly HAS affected Russian energy sales and spiked costs for us all).
With 10% of the world’s crude and 40% of Europe’s gas coming from the Russians, this is one sanction you want to think about before doing, which is why the White House was quick to say that it wasn’t decided yet on the matter.
This is not about whether Joe Biden has the cojones to sanction Russian oil, as much as his political detractors would love to argue otherwise. It’s about avoiding further pain for American families at the pump, where a gallon is expected to reach the 2008 pre-financial crisis average of $4 by Monday; not to mention the forward-going impact of that on their grocery bills.
As it is, crude prices are up 25% since Feb. 23, the day before the Ukraine invasion. On Thursday, we’ll get the U.S. Consumer Price Index reading for February, which is forecast to show a year-on-year growth of 7.9%. January’s year-on-year growth of 7.5% was already the highest since 1982.
UBS estimates that a $10 jump in oil equates to anywhere between 25 and 40 basis points of inflation. Federal Reserve Chair Jerome Powell’s calculation for the same is two-tenths inflation.
“If you have an oil spike and it just comes and goes, it won’t actually affect ongoing inflation,” says Powell, who plans a mere 25 basis points for the Fed’s first pandemic-era rate hike due in mid-March. “But if it’s persistent, then that’s a different thing. And we’re much more concerned at the latter.”
The Fed chair might have reason to be concerned because analysts say the only way oil prices are going to fall is by rising even more. It’s not just the adage of the commodity world, that the cure for higher prices is higher prices. With Russian oil virtually blocked by existing sanctions, prices will have to rise because (1) there’s not enough supply to feed the 99 million barrels per day of global demand (as per 2019 records) and (2) because the other major producer – Saudi Arabia – will not stop raising its prices.
In a Friday announcement, Saudi Arabia’s state-owned oil company Aramco hiked the official selling price, or OSP, of its Arab light crude to Asia by a record of $4.95 per barrel versus the Oman/Dubai average which it uses as its base.
Russia exported 10.5 million barrels per day in 2021 and 20% of that went to America alone.
In a Twitter audio discussion on Friday, Eric Nuttall, senior portfolio manager at Canadian alternative investments firm Ninepoint Partners, estimated that about 1.5 million of Russian oil exports were already impacted by ongoing sanctions and another 4.6 million bpd could be at stake if further restrictions are piled on the trade.
“We don’t need official sanctions on Russian energy. They’re being sanctioned unofficially as we speak as there are a lot of uncertainties about … credit lines,” said Nuttall. “We’ve had BP, Exxon, Shell and many others saying ‘We’re out of Russia, we’re not investing any more money (there).’ So there’s gonna be a long-standing structural impact over the medium- to long-term.”
While a lot was being made out of Iran’s tentative nuclear deal with world powers and its return to the oil market without U.S. sanctions, Nuttall said rumors were that the Islamic Republic could only add about 500,000 bpd of new barrels to the trade right away, and another 200,000 bpd over the next six months.
This is because Tehran – as almost every oil trader and his grandmother knows – has been selling as much oil as it secretly could to China, India and everywhere else possible over the past year due to lax enforcement of the Trump-era sanctions by the Biden administration.
“We all pray that peace breaks out (in Ukraine) and the oil price is going to fall back to $90,” said Nuttall. “But I think this is going to be a long-standing crisis instead.”
Sounding genuinely worried, the typically bullish oil Nuttall adds:
“Unfortunately for the global economy, what it means is the oil price now has to go high enough to kill discretionary demand, that it’s too expensive to go on flights and to go on road trips. And that you’re looking at at least $130 per barrel. It’s not the oil price that I’m hoping for, because it has broader economic implications, but I can’t see any other alternative though. We have been talking for years about the multi-year bull market theory in oil and that was always the end conclusion. But the Russian Ukraine war has brought forward the arrival of that conclusion by nine months to a year.”
Nuttall might have been conservative with his forecast. If Russian crude is rejected, oil might hit $150 a barrel in the next three months, according to Damien Courvalin, head of energy research at Goldman Sachs.
I’m often compelled to take not a grain but a few tablespoons of salt with whatever Goldman predicts because it has a tendency to overstate most things, and then use the big megaphone it wields on Wall Street to saturate the airwaves with its forecasts to try and make them self-fulfilling prophecies.
In this case, however, Goldman isn’t alone. JPMorgan says if the disruption to Russian oil volumes lasts throughout the year, global crude benchmark Brent could end 2022 at $185.
But JPM also says in such a scenario, there could be demand destruction of some 3 million barrels daily, alluding to the debate about the price that could kill discretionary demand.
Motorists in the U.S. tend to become wary about filling up their cars when gasoline reaches $4 per gallon, a Reuters story published on Thursday said. As of Friday, according to the American Automobile Association, the national average was $3.73 per gallon. As I said at the outset of this column, that average will likely be breached by Monday itself to surpass $4 to account for the full 30% gain in gasoline futures this week.
Patrick De Haan, head of petroleum analysis at GasBuddy, said in that Reuters story that when we do “see $4 a gallon, there may be an adverse reaction”. But he also adds that “with a strong economy and prices that remain well below inflation-adjusted records, it doesn’t have the same sting” as in, say 2008.
RBC’s senior analyst Mike Tran said that when adjusting for inflation, the $4-per-gallon price reached in 2008 would be equal to about $5.20 in today’s dollars. “The next frontier of oil prices will be defined by prices in search of demand destruction, and that is as bullish a framework gets,” Tran said in that same story.
As for me, all I know is that the consumer is king. It’s the consumer – not the Saudi Crown Prince – who ultimately determines how much s/he can afford to pay for anything.
On that end, an interesting nugget fleshed out from Friday’s phenomenal U.S. monthly jobs beat was that there was zero percent gain in average hourly earnings for February despite the addition of 678,000 non-farm payrolls versus a forecast 400,000. And that, in itself, was phenomenal, considering that wages had risen non-stop in 10 previous months as employers courted employees.
But there have been declines in U.S. wage pressure previously, only to be followed by sustained periods of increases, and one swallow doesn’t make a summer, as the saying goes. Yet, if salaries do not pick up sharply again – and they might not with the Fed preparing for a series of rate hikes from here – the consumer might just have less money to go around each month. Gasoline at $4, let alone $5, doesn’t seem very affordable at that point.
On the flip side, crude at north of $150 may be exactly what is needed to speed up the alternative energies that are at the heart of Biden’s policies – which his detractors would say got us to this place. “The huge jump in oil and natural gas prices will accelerate the switch to electric cars, solar panels and other renewable energy sources,” oil and gas exploration geologist Richard Mason said in a commentary published on Saturday, hours before my column went out. In that sense, the Saudis may actually be helping the U.S. by refusing to budge on oil production and prices.
Oil Market Activity & Closing Prices
Crude prices posted double-digit weekly gains and closed at their highest in at least nine years after the White House said it was considering a ban on Russian oil imports, adding to the worries of a market already hyped up about sanctions on one of the world’s largest energy exporters.
The escalating war in Ukraine and the West’s retaliation with more financial punishments on Moscow further fueled Friday’s crude. Another catalyst was Saudi Arabia’s announcement of a record hike in the selling price for its crude.
U.S. crude’s West Texas Intermediate, or WTI, benchmark settled up $8.01, or 7.4%, at $115.03 a barrel, its highest close since 2008.
For the week, U.S. crude was up about 26%, its biggest weekly gain since March 2020.
Global oil benchmark Brent was up $7.65, or 6.9%, at $118.03 a barrel. For the week, Brent rose 21% for its biggest weekly gain since April 2020.
WTI has risen some 53% since the year began and Brent 52%.
Oil: Technical Outlook
WTI’s front-month April contract had a fired-up week with a $22 move ($95.79 to $117.94) that created a massive run away gap on the 4-hour chart, which remains unfilled, says Sunil Kumar Dixit, chief technical strategist at skcharting.com.
“Over time, prices have to come down to fill the gap,” he said.
A one-sided parabolic rally has made the U.S. crude benchmark “extremely overbought”, said Dixit.
“We can still see some more upside to the contract that could take it $120 and $125 over the next week. Nonetheless, with every passing day, oil is inching closer to trigger a sharp decline targeting $105-$95 initially, with the next leg up to the 2008 all-time high of $147 or back down to $82-$67, depending on the geopolitical factors around oil as well.”
He said stochastic readings of 94/87, 97/88 and 97/95 on the daily, weekly and monthly charts, respectively, indicate overbought status, but with some potential for advance with correction warnings nearby.
RSI readings of 80, 81 and 73 on the daily, weekly and monthly charts, respectively, warn of a sharp pullback to the break out area of $95 over the next few days or so, he added.
Gold: Market Activity & Prices
Gold had its biggest week in almost two years, inching toward the long-eyed $2,000 an ounce target as worsening Russian aggression in Ukraine raised geopolitical risks that boosted the yellow metal.
A sterling U.S. jobs report for February that extraordinarily found no gain in wages also aided gold. Analysts said the report might prod the Federal Reserve to go easier with the first pandemic-era rate hike due in the next two weeks.
Gold’s most-active contract on New York’s Comex, April, settled up $39 at $1,974.90 an ounce.
For the week, the benchmark gold futures rose 4.2% for its largest weekly advance since July 2020, when it was en-route to record highs above $2,100 in August that year. Since achieving that pinnacle, gold has fallen to $1,600 levels and risen to as high as $1,976 this week without being able to test the $2,000 target.
But the Russian invasion of Ukraine and soaring inflation in the United States could change that now for gold longs.
“Gold has key technical resistance levels it has to break past, but the argument for the $2000 level does not seem so far fetched anymore,” said Ed Moya, analyst at online trading platform OANDA.
“Demand for safe-havens was elevated after Russians seized Europe’s largest nuclear plant in Southeastern Ukraine. Russia’s military campaign continues to make gains and that is leading to fears they have an ambition to take control of all of Ukraine. With both European equities and the euro in freefall, demand for safe-havens will not be easing anytime soon.”
Gold’s standing as an inflation hedge has also been greatly boosted by the growth in U.S. prices due to ultralow interest rates and trillions of dollars of pandemic-related spending.
The Fed slashed U.S. interest rates to nearly zero after the COVID-19 outbreak in March 2020 and kept them there to enable economic recovery.
After contracting 3.5% in 2020 from disruptions forced by the pandemic, the economy expanded by 5.7% in 2021, growing at its fastest pace since 1982.
But inflation grew even more. The Personal Consumption Expenditure Index, a U.S. inflation indicator closely followed by the Fed, rose by 5.8% in the year to December and 6.1% in the 12 months to January, Both readings also indicated the fastest growth since 1982. The Fed’s own tolerance for inflation is a mere 2% per year.
Inflows into exchange-traded funds on the back of the war in Europe and the economic fallout may also provide a pillar of support for bullion prices, Bloomberg reported on Thursday.
Holdings in gold-backed ETFs could increase by 600 tons this year if concerns over U.S. growth widen, potentially leading to a price spike to $2,350 an ounce, according to Goldman Sachs. Inflows into funds have totaled just above 100 tons so far, Bloomberg data showed.
Gold: Technical Outlook
Like oil, the price of spot gold had a spectacular week, with the previous week’s failed attempt to breach 1974 pushing prices down to $1,879, testing the nerves of longs in the market, Dixit noted.
“The week opened with a massive run away gap as prices debuted at $1,921, which was $32 above the previous close of $1,889, leading to choppy trades. But unlike the technical moves on WTI, gold filled its gap eventually, and resumed bullish momentum,” he said.
Spot gold’s 4-hour chart shows a breakout above the symmetrical triangle formation that targets $2,034 soon after the $2,000 target is cleared, Dixit said.
But while stochastics and RSI are supportive of the upside, any short-term correction below $1,968 will start a sideways minor correction towards the $1,950-$1,935-$1,925, he said.
“Since the main trend is up, buyers are likely to join around the value areas and volume-supported buying can restart the bullish momentum targeting $2,000-$2,034.”
Disclaimer: Barani Krishnan does not hold a position in the commodities and securities he writes about.