By Barani Krishnan
Investing.com -- Who will call whose bluff? After two months of being squeezed by the Group of Seven’s crude price cap, Vladimir Putin’s regime has apparently had enough, saying it will cut its oil production - just as the European Union follows the United States in banning all forms of Russian energy while the G7 instituted another cap on Russian fuel prices.
Russia will slash its oil production by 5%, or 500,000 barrels per day, from March, Deputy Prime Minister and de facto energy minister Alexander Novak announced on Friday.
“Russia believes the price cap mechanism for selling Russian oil and oil products interferes with market relations,” Novak said. “It continues the destructive energy policy of the countries of the collective west.”
OPEC+, the alliance of 23 oil producers that Saudi Arabia leads with Russia’s assistance, has nothing to do with the cuts planned by Russia, Novak said - just in case the Biden administration seems to think the House of Saud is once again helping its comrade-in-distress Putin to weaponize energy.
The United States singled out the Saudis for criticism last year when OPEC+ announced a 2-million-bpd cut in October, which was seen by Washington as an outright attempt to bolster Russia’s war against Ukraine. Instead of being helpful, the OPEC+ cut was a prelude to a 9% drop in crude prices between November and January as Chinese demand for oil tanked from COVID-19 restrictions and fears of a global recession spiked.
Aside from Novak’s announcement on Friday, Reuters, citing energy industry officials in Moscow, reported that the Kremlin plans to set a fixed $20 per barrel differential for its Urals crude to dated contracts of global benchmark Brent for “tax purposes”.
Russia currently uses Urals price assessments in Europe's Rotterdam and Augusta ports, provided by commodity price reporting agency Argus, to determine its mineral extraction tax, additional income tax, oil export duty and reverse excise on oil.
According to data issued by the finance ministry in Moscow, the average price of its Urals in January was $49.48 a barrel, down 42% from January 2022.
“The ‘Empire Strikes Back’ is what I’d call it, in this case, the Russian empire,” Phil Flynn, an energy analyst and self-proclaimed oil bull at Chicago’s Price Futures Group, told Investing.com.
“Putin is betting that the West is going to need all these energy products they are shutting themselves off from and that ultimately they will hurt more from these sanctions, despite the hurt they want to cause Russia. It’s a question of who calls whose bluff.”
Knowing the Russians’ aggressiveness when they are pushed to the wall, Flynn says Moscow’s response could play out in ways that the West might not like.
In his energy market note on Friday, Flynn said Russian deputy premier Novak did not only announce the production cut or reiterate Moscow’s stand that it will not sell oil to any country that directly or indirectly adheres to the G7 cap.
“Novak also warned, in what could be a veiled threat, that the price caps could be applied to other global economic sectors,” Flynn wrote. “That could be a threat to grain and perhaps platinum and palladium that the Biden administration will need in its push for electric cars. Russia is the world’s top producer of palladium and the world’s second-largest producer of platinum.”
“There is also a threat that Russia’s aggressive attitude could block Ukrainian grain exports in what will be a much smaller Ukrainian crop.”
The G7 responded swiftly to the Russian announcements, cautioning oil consumers that Moscow might be trying to pull off a stunt. “It is critical not to take Russian statements about oil production cuts at face value,” Reuters quoted a G7 Price Cap Coalition official as saying.
Historically, OPEC+ countries have often put out more crude than they said, although under-investment in oil fields since the coronavirus pandemic has made it difficult for many to produce like before.
“Global energy markets remain stable, with benchmarks largely unchanged since the implementation of the crude cap in December,” the G7 official said. “According to public reporting, a large volume of Russian seaborne oil was delivered via price cap-compliant tankers.”
The official added that the price cap - of $60 per barrel on Russian crude and at $100 on diesel and $45 on fuel oil and naphtha - “continues to meet its dual objectives”.
The U.S. Treasury Department has repeatedly said that it wants to limit what the Kremlin can earn per barrel in order to squeeze Moscow’s funding for the war in Ukraine, while ensuring Russian oil supplies reach markets that needed them.
On that score, the G7 official said “any Russian production cuts will disproportionately hurt developing countries”.
Besides the G7 response, the economic data out of Moscow shows the Russian economy teetering into riskier waters as Putin pushes to somehow win a war he began almost a year ago and which has isolated his country from most of the world.
Russia's current account surplus hit a record high in 2022, as a fall in imports and robust oil and gas exports kept foreign money flowing in despite Western efforts to isolate the Russian economy over the conflict in Ukraine.
But Moscow is now contending with sharply lower export revenues, down 35.1% year-on-year in January, in part due to price caps and embargoes on Russian oil and gas products.
Energy revenues were particularly low in January, down 46.4%. The slumping revenues, combined with soaring expenditure, pushed Russia's federal budget to a deficit of 1.76 trillion roubles ($24.2 billion) in the first month of the year.
Lower export volumes saw Russia's current account surplus shrink 58.2% to $8 billion in January, the central bank said on Thursday, squeezing Russia's capital buffers at a time when Moscow is ramping up budget spending.
The current account, a measure of the difference between all money coming into a country through trade, investment and transfers, and what flows back out, stood at $19.1 billion in January 2021.
Demand-wise as well, Russian energy has pretty much only two buyers now: India and China.
“At this point, having choked Indian and Chinese refineries with so much oil in recent months, the Russians might have to wait out the next round of demand from these refiners, who, don’t forget, are re-exporting part of the Russian crude they are buying as finished fuel products,” John Kilduff, founding partner at New York energy hedge fund Again Capital, told Investing.com.
“So, India and China, besides their own consumption, need to find end-markets for the Russian oil they are buying as well. Yes, the rock-bottom Russian crude prices have been great for the profits of Indian and Chinese refiners. But now, they may have reached an inflection point for demand. Everyone’s competing for that same Asian market share. So, the Russian production cut here might be a forced situation, rather than a voluntary one.”
Despite typically holding a negative bet against oil, Kilduff concedes that there could be some near-term pressure on energy consumers from the mind games played by Russia and the West.
“From the consumers’ perspective, everything has to go perfectly for prices to continue staying flat to lower,” Kilduff said. “I liken it sort of to the New York City commuter traffic. Tons of volume goes through, you get to work pretty much fine every day. But you have one little accident, and now you’re looking at an hour-and-a-half to get across to the George Washington Bridge.”
But all said, the G7 and the White House seem “pretty happy with the way their price cap has worked”, said Kilduff.
“The Russians have been yelling from the rooftops that the cap is ‘stupid’. But the fact of the matter is it has succeeded in forcing them to sell to the lowest bidders in India and China. And they are hurting from that.”
“Also, we are in a flat demand period ahead of the pick-up for summer. The market shouldn’t really be missing the Russian barrels right now.”
Oil: Market Settlements and Activity
Oil markets jumped as Russia hit back at the G7’s price caps by announcing production cuts and its own minimum price structure.
New York-traded West Texas Intermediate, or WTI, crude for March did a final trade of $79.76 per barrel on Friday, after officially settling the session at $79.72, up $1.66, or 2.1%. The session high was $80.33, its loftiest since Jan. 30.
For the week, the U.S. crude benchmark was up almost 9%, overwriting the previous week’s 7.5% plunge.
London-traded Brent crude for March delivery had a final trade of $86.52 after finishing the regular session at $86.39, up $1.89, or 2.2%. The session peak was $86.90.
Brent was up 8% on the week, erasing the previous week’s 7.5% decline.
Oil plunged the previous week on the back of recession fears and uncertainty in U.S. interest rates' direction after bumper job and wage gains among Americans in January threatened to bump up inflation.
During the week in review, oil rebounded on the premise that Chinese refiners would add exponentially to imports this month as the country returns from the long Lunar New Year break and into an environment free of COVID-19 restrictions which had previously hampered demand.
However, Chinese import data supporting such a market run-up will likely not emerge for weeks. Latest available data showed the world’s largest crude importer bought 10.98 million bpd, or barrels per day, in January, down from December's 11.37M bpd and November's 11.42M bpd.
Running counter to the just-ended week’s bullish sentiment in oil were large builds across the board in crude, gasoline and distillates in the Weekly Petroleum Status Report released by the U.S. Energy Information Administration on Wednesday.
Oil: Price Outlook
WTI’s long consolidation within $72.25 support and $82.65 resistance creates a potential price range with a $10 sideplay, said Sunil Kumar Dixit, chief technical strategist at SKCharting.com.
Though WTI’s daily chart shows the possibility of a bullish continuation, with the RSI, or Relative Strength Index, at 54 - positioned above neutrality of 50 - the confluence of the 50-Day EMA, or Exponential Moving Average, with the Daily Middle Bollinger Band calls for caution, Dixit said.
“The market will prefer to monitor reaction to the 100-Day SMA (Simple Moving Average) of $81.08, followed by the horizontal resistance of $82.70 for any breakout and retest, before taking a broader bullish call.”
Natural gas: Market Settlements and Activity
The selloff in natural gas paused Friday, with the market posting its first weekly gain in eight, as bears in the market reassessed their positions after taking the heating fuel to 2-½ year lows in the previous session.
The front-month March gas contract on the New York Mercantile Exchange’s Henry Hub did a final trade of $2.580 per mmBtu, or metric million British thermal units on Friday, Investing.com data showed. The official settlement for the session was $2.514, up 6.9 cents, or 2.8%.
For the week, the benchmark U.S. gas contract rose 4.3%, posting its first weekly gain since the week ended Dec. 9. Gas futures lost a cumulative 63% in seven weeks prior to that.
On Thursday, March gas fell to $2.351, plumbing the lowest level for a front-month gas contract on the Henry Hub since Sept. 28, 2020, when the benchmark contract then went down to $2.02.
An unusually warm start to the 2022/23 winter season has led to considerably less heating demand in the United States versus the norm, leaving more gas in storage than initially thought.
At the close of last week, U.S. gas-in-storage stood at 2.366 tcf, or trillion cubic feet, up 10.9% from the year-ago level of 2.133 tcf, data from the EIA, or Energy Information Administration, showed.
Utilities drew a higher-than-forecast 217 bcf, or billion cubic feet, from storage for heating and electricity generation last week, the EIA said.
Analysts tracked by Investing.com had expected a draw of 195 bcf for the week ended Feb. 3, above the consumption of 151 bcf seen in the prior week to Jan. 27.
“The bullishness of the withdrawal was driven by colder-than-normal temperatures, especially at the end of the reflective storage week,” analysts at Houston-based energy markets consultancy Gelber & Associates said. “However, improving imbalances such as this aren’t significantly meaningful when they’re not accompanied by a supportive temperature outlook.”
Responding to the warmth and lackluster storage draws, gas prices plunged from a 14-year high of $10 per mmBtu in August, reaching $7 in December and mid-$2 levels this week amid forecasts for bitter cold here and there.
Natural gas: Price Outlook
Natural gas’ RSI and Stochastics lack signs of an end to its bearish correction despite prevailing oversold conditions, said Dixit of SKCharting.
“The $2 support remains intact for now,” said Dixit. “But if the $2.35 support is broken followed by a failed $2.18, then another headlong plunge will follow.”
On the other hand, temporary optimism may reflect on some weak shorts being covered, he said. “In this aspect, if $2.68 is breached, followed by a breakout reaching $2.989, then the upside could stretch.”
Gold: Market Settlements and Activity
Gold for April delivery on New York’s Comex did a final trade of $1,876.50 on Friday, after officially settling the session at $1,874.50, down $4 or 0.2%.
For the week, however, April gold was up 0.6%.
The spot price of gold, more closely followed than futures by some traders, settled on Friday at $1,865.93, up $4.19, or 0.2%. For the week, the spot price was virtually flat.
Gold: Price Outlook
Going further into next week, spot gold’s sustainability above $1,856 will help it get some bounce towards $1,872 and $1,878 - which is a critical barrier to cross over to the further resistance zone of $1,886 and $1,893, said Dixit.
“Sustainability below $1,856 will prompt a quick retest of $1,852, which is the acceleration point for a further drop to $1,842 and $1,832, with our own bearish target of $1,828, which coincides with the 38.2% Fibonacci level,” he added.
Disclaimer: Barani Krishnan does not hold positions in the commodities and securities he writes about.
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