Huge Oil Rally on Bullish Cocktail of Events
The crude oil complex saw a HUGE rally on Wednesday.
A cocktail of bullish events/news pushed the June WTI contract as much as 30% higher, to nearly 18 from overnight lows around $13.50. June Brent (which expires next Thursday) also managed an impressive more than 10% rally.
There are few reasons for the rally, which cover both the supply and demand side of the equation that determines crude prices. Understanding today’s driver is a good exercise if you are learning the fundamentals that typically move crude oil markets.
Let's start with supply-side drivers;
1) Major producers increasingly indicate supply reductions - The Saudis reportedly have already begun to reduce crude oil output from maximum levels (of around 12.5mln), in preparation to reduce production to around 8.5mln BPD in June. Kuwaiti producers have indicated similar sentiments. Meanwhile, more and more producers in the US and Canada have been stopping production amid low oil prices rendering production cost-ineffective.
In effect, the low oil prices are having the effect they should on producers - incentivising them to reduce production and bring prices back to more reasonable levels.
2) Iran responds threateningly to Trump’s threats - Trump yesterday threatened to destroy Iranian boats that harass US boats as they pass through the Strait of Hormuz. Iran has today responded, threatening to destroy any US ships which threaten Iranian interests in the region. Even if Trump is just posturing in an attempt to push oil prices higher, it appears to be working and Iran is plenty happy to play along. Let’s hope it it just posturing though, obviously the last thing we all need right now is a war with Iran.
The greater the risk of war in the Middle East, the more crude is typically supported, as much of the world’s oil is produced in this region. In other words, it would be easy for the Iranians to take out nearly all of the Saudi Arabian’s production within hours with advanced missiles if war fully broke out.
Now moving onto the demand side;
3) Risk on rally - Oil is a risk-sensitive asset; this means, when stocks and other risk assets rally crude often goes with it. This is because when stocks and other risk assets rally, it is often indicative of an improving economy, which is good for oil demand.
Today we have seen risk FX (AUD, NZD, CAD, NOK, SEK) and global equities rally on a few bullish events - the BoJ unveiled unlimited QE for bonds and increased its purchases of corporate paper, German CHancellor Merkel called for a “huge” EU economic response to the Covid-19 pandemic (raising hopes she will compromise on key issues at tonight’s EU Summit) and US Weekly Initial Jobless Claims data showed that, although still high, weekly job losses in the US are slowing.
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