Oil prices were slightly higher on Monday as tensions between Russia and Ukraine escalated over the weekend.
According to reports, Russia launched its biggest air strike on Ukraine in almost three months on Sunday, damaging the latter’s power system.
The escalation comes at a time when oil prices have been falling due to concerns over poor demand and a potential oversupply in 2025.
At the time of writing, the price of Brent crude on Intercontinental Exchange was $71.14 per barrel, up 0.1%.
The West Texas Intermediate crude oil was $66.98 per barrel, also up 0.1% from the previous close.
The rise in prices have been limited as China’s oil imports have continued to fall, while processing of crude has also declined last month.
China is the top importer of crude oil in the world.
Russia-Ukraine tensions
Reuters reported that the US has changed its stance, and the Joe Biden administration has allowed Ukraine to use US-made weapons against Russia.
According to two US officials and a source familiar with the decision quoted by Reuters, the Biden administration has allowed Ukraine to use US-based weapons to strike deep into Russia.
The Kremlin had earlier warned that it would see the move to loosen limits on Ukraine’s use of US weapons as a significant escalation.
So far, the war between Russia and Ukraine has not resulted in any loss of crude oil from Russia.
Russia is one of the top exporters of oil even with heavy sanctions from the western countries.
However, analysts believe that if Ukraine decides to attack oil facilities in Russia, supply will be at major risk.
IG markets analyst Tony Sycamore told Reuters:
Biden allowing Ukraine to strike Russian forces around Kursk with long-range missiles might see a geopolitical bid come back into oil as it is an escalation of tensions there, in response to North Korean troops entering the fray.
However, the gloomy outlook on demand and lingering threats of an oversupply mean that prices may not rise sharply.
Gloomy demand outlook
Last week, both the Organization of the Petroleum Exporting Countries and the International Energy Agency scaled down their forecasts for growth in global oil demand.
While OPEC’s predictions are a bit too optimistic, the cartel still revised down its forecasts for the fourth consecutive month.
OPEC expects demand to grow by 1.8 million barrels per day in 2024 and a further 1.5 million barrels per day next year.
Both projections had been cut by a bit over 100,000 barrels per day from its previous estimates.
In the case of IEA, the agency expects growth in global oil demand below the 1-million-barrels-per-day mark for both 2024 and 2025.
This was significantly lower than OPEC’s estimates.
Moreover, IEA believes that the oil market is staring at a significant oversupply next year. Most of these oversupply concerns are because of poor demand.
The IEA said non-OPEC oil supply, especially from the US and Brazil are expected to rise by 1.5 million barrels per day in 2025.
This will be more than enough to offset the expected growth in oil demand, it said.
Moreover, the oversupply “is likely to be considerable if OPEC+ gradually scales back its voluntary production cuts of 2.2 million barrels per day in the coming year, as currently planned,” Carsten Fritsch, commodity analyst at Commerzbank AG, said.
Prices likely to remain lower
With the current market balance, even if there are slight disruptions in supply from Russia, oil prices are likely to remain subdued.
The expected supply increase next year is likely to offset any disruptions in the market.
Moreover, OPEC+ is scheduled to unwind some of their voluntary production cuts and increase production by 180,000 barrels per day from January 1.
Though the cartel had extended these cuts since June, falling market share of the OPEC countries, including Saudi Arabia had prompted the Kingdom to think about abandoning its desire for much higher oil prices.
Barbara Lambrecht, analyst at Commerzbank, said in a report:
If the heavyweight Saudi Arabia is no longer willing to give up market share in favour of higher prices, and the cartel consequently adheres to the planned expansion of production, there is a risk of a massive oversupply next year, which is likely to cause prices to fall significantly.
Meanwhile, the uncertainty around the US Federal Reserve’s rate-cut cycle could also weigh on oil prices.
As inflation remained sticky in the US, with a resilient labour market, Fed officials last week indicated that the central bank would have to be “careful” with further easing.
Since September, the US Fed has cut interest rates by 75 basis points over the course of two meetings.
The market expects the central bank to cut rates by a further 25 bps in December.
Elevated rates increase borrowing costs, while limiting liquidity in the economy.
This is bearish for crude oil and other commodities.
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