JPM: Oil Markets Weekly: Prices fall, Ironies abound

We have spent the past six months listening to producer and consumer governments as well as oil companies indicate that $75 is a "fair price" for a barrel of oil. Messer's Brown and Sarkozy tell us that producers and consumers are now closer together on the issue of upstream investment (and implicitly the price needed to fund it) for the first time in 30 years. Yet when the oil market brushes that price target, helped in no small order by signals from OPEC that it will manage supply to hit that goal, it is regarded as acting irrationally and without economic justification.

We, like most analysts see the oil market going into a supply deficit in the second half of the year. But to add to the irony, the market is starting to question the deliverability of such a goal by OPEC.

Just one week into July, and with data that covers just the pre-July 4 holiday in the US it is somewhat premature to argue that such a deficit will not materialize. Further, we are seeing signs that both Saudi Arabia and the UAE appear to be tightening August supplies to Asia - alongside ongoing outages in Nigeria and the possibility of stronger compliance elsewhere ahead of the September OPEC meeting. Seasonality should boost demand as the third quarter goes on and there is also a strong likelihood that industrial activity will be grinding higher as well.

But the market has been discounting a tighter second half scenario for some months now. It now wants proof that stocks are drawing. That is not easy. Floating storage numbers are opaque, and as everyone digs down into the nitty gritty they are uncovering more and more cargoes on the water. Some of these are likely to be part of the usual trade flows, rather than genuine floating storage. We prefer to use timespreads as our guide, and these suggest crude stocks are still falling and distillates are flat. The large net crude and product build shown in the US weekly data may however not be perfect as a global guide - in Japan there was a net fall in total petroleum stocks, and we suspect that with the fullness of time a modest deficit will be shown to be in place. Still the market is right to demand proof and until it gets it, the correction could stay in place.