The week began with another drone missile attack by Iranian backed Houthi rebels in Yemen. This time the target was the massive Saudi refining and export loading facility at Ras Tanura. Market reaction was swift during Sunday overnight trading, with May Brent moving above $70.00/barrel and April WTI trading as high as $67.98. Prices quickly reversed however when it was learned the attack had been thwarted with no damage reported.
Houthis militia were also behind the September 2019 drone attack on the central oil transshipment terminal at Abqaiq. Unlike this week’s event, the attack at Abqaiq did considerable damage. The response this week was a “Saudi coalition” airstrike on Houthi targets near the capital of Sana’a. Monday’s escalation of the proxy war between Saudi Arabia and Iran, just weeks after the Biden administration ordered its own airstrikes on Iranian backed militants in Syria, provides the oil market reason to bump up the geopolitical risk premium. Likewise, these airstrikes on Iranian backed militias likely decrease the odds of any quick rapprochement between the Biden administration and Tehran on nuclear sanctions.
From a technical perspective, the broad reversal in prices that followed on Monday has opened the door for a larger correction, especially given the speed and scope of the price recovery from $33.67 in early November. That said, Saudi action and success last week at the OPEC + meeting should tighten the 2Q market balance, underpinning strong flat price and potentially steeper backwardation when spring/summer seasonal refining increases kick in next month.
Our January 8th Friday Focus (Surprise Saudi Output Cuts Speeds $50.00 WTI) highlighted the Saudi resolve in rebalancing the oil market, and their efforts to maintain steep enough backwardation in the curve to hamper a U.S. shale recovery. That resolve was greatly in evidence last week as OPEC+ debated an April start for a supply increase.
Market expectations were that Saudi Arabia would roll back their unilateral one million bpd cuts for Feb and Mar, along with another 500,000 bpd increase shared across other OPEC + nations. Like early January, the Saudi pulled a last minute “rabbit out of the hat” by extending their one million bpd cut through April with zero supply adjustment.
We will likely see improved supply in the back half of 2021 both from OPEC and additional US shale recovery. Research from both Citigroup and the U.S. EIA points to an improving supply picture for 2H 2021 and 2022. However, we see a clear path toward much tighter physical markets, and even steeper backwardation in the 2Q of 2021 as US refiners play a great deal of “catch-up” after freeze repairs, and amid much improved cracks/refinery margins and powerful “seasonal” considerations.