Oil: Deficits support higher prices – TD Securities

TD Securities’ Ryan McKay argues that Crude Oil is far from oversupplied, with high-frequency global and Chinese balances still pointing to tightness. McKay expects ongoing market deficits, inventory drawdowns and the rebuilding of buffers to keep prices elevated, projecting a recovery toward $90/bbl and possible extension toward $100/bbl as structural tightness persists.

Structural tightness and deficit outlook

"Our high-frequency estimates of global and Chinese supply-demand balances, along with Middle Eastern production, continue to point to market tightness despite increased flows through the Strait of Hormuz. Ongoing market deficits, inventory drawdowns, and longer-term rebuilding of market buffers should see prices recover toward $90/bbl, with potential for a move toward $100/bbl."

"Flows through the Strait of Hormuz have increased notably since the signing of the MoU [Memorandum of Understanding], as stranded tankers have quickly rushed for the exit. This has seen a flush of supply in the market that is being mistaken for a supply glut. However, looking forward, as the market becomes reliant on production increases rather than floating storage, flows are likely to tighten again."

"All pre-war slack has been removed from the system, and every conceivable and unexpected lever of flexibility has been pulled to avoid catastrophe. The market has priced this avoidance as a combination of relief and optimism, while also placing an overexaggerated focus on the near-term temporary supply and the start of a supply recovery. While the right tail outcomes for crude pricing have thinned, prices should still settle higher than pre-war levels, given the fundamental damage that has taken place."

"Based on this production recovery profile, we continue to expect market deficits of roughly 2.5-3m b/d in crude and at least 1-2m b/d in products through July and August, before the market moves into a more balanced state in September. We expect these deficits to persist despite higher flows, as a slowdown in SPR releases and lower U.S. exports driven by domestic inventory tightness offset part of the increase in supply."

"In this sense, a system that remains structurally stretched relative to recent history will warrant structurally higher prices."