Oil Hits Two-Month High With Vaccine Hope Offsetting Demand Fear

(Bloomberg) -- Oil rose to its highest in more than two months in London on optimism that a potential coronavirus vaccine will boost demand, offsetting immediate concerns over growing virus lockdowns.

Futures in London climbed 2.9% to the highest since early September, adding to Monday’s gain following encouraging results from a large-scale vaccine trial. Oil extended gains after the industry-funded American Petroleum Institute was said to report that U.S. crude inventories fell by 5.15 million barrels last week. The report also showed gasoline and distillate stockpiles fell.

While headline prices are advancing, there have also been sharp moves in the structure of the futures curve. Brent for six months ahead was at its strongest versus 12 months out since March, a sign that traders are growing more positive on supply and demand balances for the second half of the year. In fact, the head of Vitol Group, the world’s largest independent oil trader said oil demand should recover to pre-pandemic levels by the northern hemisphere’s fall season next year.

But before a viable, widely distributed vaccine is available, growing lockdown restrictions in parts of Europe and surging cases worldwide present lingering threats to a sustained demand recovery. Meanwhile, the continued return of Libyan supply remains a complicating factor for the OPEC+ alliance’s plan to taper output cuts in January.

“Price gains from here get tougher,” said Rob Haworth, senior investment strategist at U.S. Bank Wealth Management. “Shutdowns in Europe are going to limit activity for the next month. There’s only so much you can do when you got a spot market that remains awash in oil.”

Still, an improving picture in Asia offers a bright spot, with consumption recovering in China and oil demand in Japan roughly back to normal. In further signs of strength, the spread between West Texas Intermediate’s December 2021 contract firmed to its strongest since February against that for the following December.

The Middle Eastern Dubai benchmark is now in a structure known as backwardation, where nearer-dated futures trade higher than longer-dated ones in a bullish sign.

Short-covering, a rush to buy futures to cover bearish wagers, has also helped support the rally.

“Large speculators came into this week holding a near record ‘short’ position in the ICE Brent contract, which helped fuel yesterday’s impressive rally at the front of the curve where most of those ‘short’ positions are held,” said Ryan Fitzmaurice, commodities strategist at Rabobank. “A combination of expected fundamental tightening next year along with aggressive ‘short’ covering” is driving the buying in deferred spreads.

Monday’s price rally came after a mammoth short position had built up in the oil market. That forced a buying spree as traders rushed to cover those bearish bets. It also triggered a rally in some refined products, most notably jet fuel.

There are more reasons to remain cautious of the rapid surge in prices. Goldman Sachs Group Inc. said fresh virus outbreaks will present a speed bump to the oil market before further tightening. Meanwhile, BMO analysts said it is “too soon” for $50 oil prices as the market contends with supply headwinds such as returning Libyan output, though the market could balance in the second half of next year.

“The announcement of a vaccine will impact asset price through sentiment, but there will be a considerable lag before we have positive and tangible effects on the economy,” said Harry Tchilinguirian, oil strategist at BNP Paribas SA. “As oil demand is still on the mend, OPEC+ will need to address the return of Libyan oil barrels and the reinstatement of supply which affects the pace of the re-balancing of the market.”

©2020 Bloomberg L.P.