Why Oil Markets Aren’t Reacting to Supply Disruptions and Geopolitical Risk

• Crude oil production in North Dakota fell by 650,000 to 700,000 bpd recently, but global oil prices were unaffected.
• At the same time, the escalating conflict in the Middle East is having little impact on oil prices. 
• It seems oil markets see little risk of a major Middle East supply disruption and believe there is plenty of spare and new supply set to come online.

In the past, any suggestion of a conflict in the Middle East prompted oil prices to rise. But that was in the past. Now, the war between Israel and Hamas is spreading, tankers and container ships are leaving the Red Sea, and yet oil prices are where they were a month ago. Despite an actual supply disruption in the United States.

This week saw crude oil production in North Dakota fall by between 650,000 bpd and 700,000 bpd, which is quite a substantial amount of daily output. This decline, however, has had no effect on international oil prices at all, it seems. Because everyone expects this production to be back on track as soon as the latest cold snap lets up.

Not only this, but everyone seems to expect demand for oil this year to grow by about the same amount as production in the U.S., Brazil, and Guyana, Reuters' John Kemp wrote in a recent column. And this is why oil prices are not moving up even in the face of potential major supply disruption and an actual disruption.

At the same time, economic data from the biggest demand driver in the world, China, appears to have disappointed again—even though it showed a growth rate for the fourth quarter of 5.2%.

This figure, as economic growth rates go, should be quite impressive under any other circumstances, especially compared with some advanced economies that actually shrunk last year. But when it comes to China, expectations appear to always be for more than what reality can offer. As a result, the resulting disappointment drives oil prices lower or keeps them steady. Even though China just reported a record refinery throughput rate for 2023.

Oil prices are not moving up even as container ships and tankers swap the Red Sea and the Suez Canal with the substantially longer route around Africa and the Cape of Good Hope. That swap should have pushed oil prices higher because it will inevitably lead to higher fuel demand. Yet nobody is apparently thinking about it, remaining fixed on China's demand and U.S. supply.

Meanwhile, Chevron's chief executives said "risks are very real" in the Red Sea, expressing surprise that West Texas Intermediate was not trading at a higher price. He is probably not the only one surprised.

"So much of the world's oil flows through that region that were it to be cut off, I think you could see things change very rapidly," Mike Wirth told CNBC this week.

Yet it seems that most players in the oil market have considered this risk relatively unlikely or, as Reuters' Kemp explains, they refuse to start catastrophizing about prices. And this is because the likelihood of a major supply disruption in the Middle East actually happening is low, and there is backup supply from OPEC itself.

The argument for the spare capacity of OPEC is a popular one among analysts. Indeed, OPEC and its partners from OPEC+ have a combined spare capacity of over 4 million barrels daily. This does not matter in the least, however, unless these producer states decide to use it. Right now, they are doing the exact opposite, however. They are effectively increasing their spare capacity by reducing actual production. And they will not change course until prices rise, which they would only do if a supply disruption occurs.

Demand, meanwhile, appears to be anyone's guess, in accordance with their agenda. OPEC sees 2024 oil demand growing strongly, at 1.85 million barrels daily. The International Energy Agency expects this growth to slow down as the energy transition gathers pace and EV sales surge, per its own forecasts.

Historically, OPEC has been closer to actual demand trends in the past few years than the IEA. Yet the market is brushing this off, too. The market is already waiting for China's next GDP report to get disappointed.

By Irina Slav for Oilprice.com

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