Crude backwardation narrows as Covid fears grow
Quantum Commodity Intelligence – Fears that the current wave of Covid-19 infections could trigger demand destruction for oil is compounding changes to the structure of the market by depressing the nearby price of crude versus later deliveries, according to market sources and data.
Front and second line backwardation in the crude market – whereby nearby prices are more expensive than later dated contracts – narrowed to $0.58/b in early London trade Tuesday compared to around $0.62/b at the same time Monday.
While that is almost certainly down to Monday's $5/b fall in the underlying price of crude that was triggered by the prospect additional supply from OPEC+, the spread has been falling for more than a week in a sign of fears that demand for oil, and energy more broadly, is not, or will not, live up to expectations made just two weeks ago.
"I'm watching the Sep/Dec spread," said one oil broker, pointing out that the difference in price between the two had narrowed to around $1.70/b after peaking at around $2.90/b on July 7.
Typically, intermonth spreads rise and fall to mirror movement in the underlying price of crude, but the scale of the change in the September/December spread portrays a picture of fears of an emergence of a patchwork of travel restrictions as Covid cases rise.
Those fears triggered an equity sell-off on Monday, which wiped more than 1.6% off the value of leading companies in the S&P500 and more than 2% from the UK FTSE 100.
"Oil is following a general macro 'risk-off', backwardation just followed (the selloff) as Covid is likely to impact the front-end of the market," said Adi Imsirovic, Senior Research Fellow at the Oxford Institute for Energy Studies.
Over the same period, the Sep21/Sep22 spread has narrowed from close to $7.50/b to under $5/b.
Calendar spreads have also tapered sharply, according to data from London-based Eagle Commodities Brokers.
Eagle valued Dec21/Dec22 late Monday at $3.83/b and Dec22/Dec23 at $2.62/b – a move that is unlikely to be explained solely by additional supply.
This compares to values for the same spreads of $5.58/b and $3.60/b, respectively, on July 7.
Demand
Commenting in a client note Tuesday, Germany's Commerzbank said; "The spread of the more contagious Delta variant of coronavirus, which is being blamed for the higher risk perception, is all the more dangerous for the oil price because the potential for renewed mobility restrictions would jeopardise the most important aspect underlying the upswing in oil prices in recent months, namely the sharp rise in demand."
Recent demand growth so far, however, has remained intact.
The International Energy Agency reported a 3.2 million bpd demand surge in June to 96.8 million bpd and sees Q3 demand averaging 98.1 million bpd.
"So far, however, global demand still appears to be recovering dynamically, so the oil market should end up in supply deficit in the coming months despite the production hikes to be implemented by OPEC+," said Commerzbank.
