Asia Oil: The Reverse Lockdown Relaxation, Mainly In The Densely Populated Sunbelt

If you were perplexed by oil's continued strength in the face of a surprise counter-seasonal inventory build, a rise in US-China frictions plotted against a backdrop of worrying coronavirus infection numbers; you were not alone. 

If it were not for a quick read of a Bloomberg article highlighted on Twitter regarding the possible short term demand devastation in China where "even Iraq's Basrah Light crude is now selling at deep discounts as the severe flooding in China crimps overall demand in the region" I may have been on the wrong side of the stick this morning. Indeed, for oil markets, China flooding is a huge black swan in itself just waiting to take flight. 

But in the main, oil prices fell in consort with risk assets overnight after jobless claims in the US rose unexpectedly for the first time since March, foreshadowing the July and August dread, as we move away for the June economic sweet spot. The recovery in mobility data and June's composite purchasing manager indices all pointed to a stabilizing economy after a good chunk of US consumers metamorphosed out of their COVID-19 cocoons. Still, the reopening has also created new challenges. In the US, around 50% of significant lockdown measures were still in place during June. But a spike in new COVID-19 infections caused several states and municipalities to pause or reverse lockdown relaxation. It is the pause and reversal of the reopening measures, primarily in the densely populated Sunbelt states, that sees COVID-19 hemorrhage back into the real-time data.

Jobs Data A Key Driver

Struggling employment metrics are perhaps the most poignant reality check for oil markets. Even an extension of US unemployment benefits may only paper over the cracks and possibly will not ease that sense of permanency getting reflected through the claims data.

When the US sneezes, the world catches a cold as even mega oil importer South Korea shows the nation's economy sliding into recession likely for no other reason than the key US export markets remain mired in an economic lockdown. Sure, US consumers are buying staples, using the internet, and watching Netflix (NASDAQ:NFLX), but they are certainly not rushing out to their local Hyundai dealer to purchase new cars. The US lockdown extensions are on the verge of creating a global economic calamity once again.

All that and I haven't even got to the big wall of worry for the global market, as President Trump seems to be campaigning on an anti-China platform where it's "Houston we have a problem" after the president ordered the shuttering of the Chines consulate in Houston. China tensions matter most to the broader markets in the near term. But for oil, there might be a short-term reprieve given that threats to the trade deal are unlikely before September or October that way, the economic damage would only be felt after the election. But without question, the level of headline risk around US-China frictions is palatable, and the market could be far too complacent in thinking that President Trump won't quash the phase one trade deal if he thought it would give him a significant boost in the election poll.

Fortunately for oil markets, recent positive news on progress toward a COVID-19 vaccine may be helping investors remain focused on the longer-term rebalancing. Indeed, the thought of a one-stop recession plugger in the form of a vaccine continues to plank the markets on deeper dips. 

And while concerns about the pace of the post-COVID recovery continue limiting the upside for oil, proper aggregate compliance from the OPEC+ agreement so far and decisive action to rectify under-compliance by some producers in May and June also suggest the most negative scenarios are less likely.

But if infection numbers continue to accelerate up, forcing more reopening rewinds oil could correct sharply lower and possibly test the bottom of near-term ranges. As it stands, we are back to the midpoint of the current booked ended range. With so much going on behind the scenes, the relative calm that the oil market has displayed recently is surprising. Still, the range play seems extremely fortified on both sides of the scales, so perhaps oil traders need a more significant play than what is currently on display to shift the needle.