Oil prices signal more balanced supply-demand outlook

Oil traders have become much more optimstic about the availability of crude over the last month, taking some of the heat out of oil prices following Russia's invasion of Ukraine.

On the consumption side, China's fuel use has faltered as more areas have been put into lockdown to control coronavirus outbreaks, and there have been early signs of a cyclical downturn in the United States and Europe.

On the production side, Russia's oil exports have continued at a reduced level despite the threat of sanctions, while the United States and its allies have offered an unprecedented volume of strategic stocks to the market if needed.

Both supply and demand, therefore, look much more comfortable than they did a month ago, with a more stable outlook for global inventories and prices.

Reflecting that greater comfort level, Brent's front-month futures contract closed at $98 per barrel last Monday, roughly the same level as prior to the invasion on Feb. 24.

More importantly, Brent's calendar spreads have softened significantly and are now trading below pre-invasion levels.

Calendar spreads are closely associated with expectations about the future production-consumption balance and inventories.

In the futures market, Brent's six-month spread has eased into a backwardation of just $3 per barrel, in the 85th percentile for all trading days since 1990.

But the backwardation has softened from a record of more than $22 on March 8 and is below the immediate pre-invasion level of $8.

Traders still expect the global production-consumption balance to remain tight and inventories to remain low this year.

But fears about an immediate shortage of crude have diminished as the prospect of an immediate embargo on Russia's exports has receded and petroleum has continued to flow.

The unprecedented offer by the United States and other International Energy Agency members to make 240 million barrels from strategic reserves available for sale over the next six months has also reassured traders there will be no immediate shortfall.

The oil market has returned to its condition before the invasion — with low inventories and concerns about further tightening, but no panic.