Undoubtedly, a growing number of people – myself included – are no longer expecting the current oil market imbalance to correct itself as fast as it had appeared to be the case up until a week ago. Several things have changed in recent days, not least for example the International Energy Agency’s (IEA) latest outlook with the oil forecaster no longer envisaging strong demand growth in 2016. The IEA also expects global supply to remain excessive throughout next year due to the anticipated arrival of Iranian oil flooding the market. Indeed, judging by the latest macro data from the world’s largest oil consumers, the EIA’s demand forecasts do not look to be too bearish after all. Speculators are acknowledging the fact that the Chinese economy is slowing down while growth in the US appears to have weakened, hence the heightened expectations of more central bank support in China and reduced probabilities of a Federal Reserve rate increase in 2015.
In addition, news of the renewed sharp builds in US crude inventories is also chipping away at bullish expectations. After a 7.1 million barrel increase over the previous couple of weeks, the market was anticipating to see a more subdued build of 2.2 million this time in the weekly crude stocks data from the US Energy Information Administration (EIA). However, as it turned out, US crude inventories actually increased by a surprisingly large 7.6 million barrels last week. This was a much bigger build than expected but was nevertheless lower than the 9.4 million-barrel-increase that was reported by the American Petroleum Institute (API) on Tuesday evening. Consequently WTI initially extended its falls before recovering slightly.
While the crude stocks build can be blamed on seasonal factors as refineries process less oil because of maintenance work after the summer driving season, the fact that inventories increased this sharply suggests output still growing more strongly than expected. Still, with the rig counts showing consistent falls in recent weeks, oil production should continue to fall back and eventually the surplus should be reduced by a meaningful margin to cause prices to bounce back. So it is difficult to say why oil prices should fall significantly further than they already have.
Indeed, the technical reversal signal that we saw at the end of August i.e. the false break below $42, which suggests crude may have bottomed out, has not been entirely invalidated yet. While the 5-day sell-off was not what the bulls would have expected to see following the latest breakout from a triangle consolidation pattern, the fact that WTI has now managed to bounce off the backside of the triangle’s broken resistance trend can be an encouraging sign for the bulls. So, it is possible that another upward move could start from here. Even if WTI retraces a little further, the bulls would still remain optimistic that the next big move would be to the upside. However an eventual closing break below that pivotal $42 handle would be a bearish outcome and if we see that then I wouldn’t be surprised if oil goes down to $35 or who knows even $30 a barrel next.