Both Brent and WTI crude oil made new highs for 2018 on April 11. The rally came as a result of a pair of geopolitical events that are related. Last week, a horrific use of chemical weapons in Syria had caused the United States to prepare a response. While the Russians and Iranians, who back the Assad regime have warned the U.S. against any attacks, President Trump told Russia to prepare for incoming missiles. At the same time, rockets fired from Yemen passed into Saudi sovereign territory increasing tensions between KSA and Iran.
The Middle East is home to more than half the world's crude oil reserves. The region has a long history as the most turbulent region, but the current environment means that the temperature is rising. Any hostilities that impede production, refining, or the logistical aspects of supplying the world with the energy commodity are likely to cause short-term price spikes and increased volatility in the energy commodity. Crude oil prices rise with political risk in the area and these days; the Middle East is taking center stage and ground zero for conflict.
The price of crude oil is now at the highest level since 2014, and the energy commodity is likely to rise with increased violence in the region over coming days and weeks.
Crude oil is a highly political commodity, but its price also reflects global economics. These days it may be politics that drives the commodity that powers the world as it threatens to move towards the $70 per barrel level on the active month NYMEX futures contract.
U.S. production continues to grow
Crude oil put in a new high for 2018 last week despite signs of growing supplies in the U.S. The United States is now one of the three leading oil producing nations in the world joining the ten-plus million barrels per day production club with Saudi Arabia and Russia.
The most recent inventory data points to increasing production of the energy commodity. Last Tuesday, the American Petroleum Institute reported that stocks rose by 1.758 million barrels. On Wednesday, the Energy Information Administration told markets that oil stocks rose by 3.3 million barrels compared to the previous week.
Oil inventories are climbing as the number of rigs in operation in the shale regions of the U.S, continue to increase. As of April 6, the number of oil rigs operating moved eleven higher to a total of 808. Last year at this time, there were only 672 rigs pumping oil from the crude of the earth. U.S. output of the energy commodity is on an upswing as the price has supported profitable production and it is possible that America could one day become the world's leading producer.
Inventories could climb because of tariffs
Commodities are ground zero in the current protectionist wave started by the Trump administration, and crude oil could be no exception if tariffs lead to a trade war. The U.S. is fast becoming a significant exporter of crude oil to points around the world. China is the leading consumer of crude oil and all raw materials given the Asian nation's vast population and economic growth. While last week President Xi of China extended an olive branch on trade and President Trump accepted his comforting words, it is possible that U.S. actions could lead to a more protectionist environment for world trade. Tariffs on steel and aluminum and $60 billion in duties on 1300 Chinese products could cause issues for both nations. However, I believe that the President's action is a threat or a bluff and that the goal is to reach bilateral trade accords with China and other trading partners around the world to improve America's position. The U.S. leader made promises on the campaign trail, and his actions are an attempt to fulfill those pledges to create a more level playing field that reflects "fairness and reciprocity."
However, the protectionist wave could impact the U.S. oil industry if China and other counties decide to retaliate and slap tariffs on energy exports from the U.S. In that case, we are likely to see inventories build and a widening of the price differential between Brent and WTI crude oils.
The Brent premium is rising
The Brent-WTI spread is typically an excellent tool when it comes to measuring the risk premium for the Middle East. During the Arab Spring that started in 2010, uncertainty about the political stability of the regions that is home to more than half the world's oil reserves, caused the spread to move to over a $25 premium for Brent over West Texas Intermediate crude oil. Additionally, the price of crude oil tends to rise when the Brent premium moves higher. Brent is the benchmark pricing mechanism for two-thirds of the world's oil. In the U.S. the WTI price is the benchmark, but when it comes to oil from the Middle East, it is the Brent price. Over recent weeks, concerns over the future stability of the Middle East led to an increase in the Brent premium over WTI.
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