Oil Prices Drop as Israel Calms Market Fears and China Demand Slows

Israel’s Retaliation Strategy Eases Geopolitical Fears

Oil prices took a significant hit as reports surfaced that Israeli Prime Minister Benjamin Netanyahu assured the U.S. that any military response to Iran’s recent missile attack would focus on military targets and not energy facilities such as oil terminals or nuclear sites. This assurance defused concerns about potential supply disruptions from the world’s key oil-producing regions, causing prices to tumble. Brent crude fell by over 4% to $74.17 per barrel, while West Texas Intermediate (WTI) dropped 4.6% to $70.45 per barrel.

The geopolitical tensions in the Middle East had previously driven oil prices higher in early October, fueled by fears that Israel could retaliate against Iran’s oil infrastructure, disrupting the supply chain. The oil market had priced in a risk premium as traders speculated about supply shocks, but Netanyahu’s reported assurance allowed that premium to evaporate.

China's Economic Struggles Weigh on Oil Demand

At the same time, concerns over the demand outlook, especially from China, continue to exert downward pressure on oil prices. China, the world’s largest oil importer, has seen a disappointing slowdown in its economy, which has dampened global demand for crude oil. Data revealed that China’s September oil imports fell, marking a 7% decline from August. The International Energy Agency (IEA) echoed this, warning that oil demand from China continues to "undershoot expectations," with Chinese consumption projected to grow by only 150,000 barrels per day (bpd) in 2024.

The IEA further trimmed its forecast for global oil demand growth in 2024, expecting a rise of 1 million bpd, which is 50,000 bpd lower than its previous estimate. OPEC also lowered its forecast for 2024 oil demand growth, reducing it to 1.93 million bpd—a revision of 106,000 bpd lower than prior projections. Both organizations point to weak demand from China as a key factor in their revised outlooks.

OPEC and IEA Highlight Concerns for 2024

The downward revision of global oil demand growth by both OPEC and the IEA highlights broader concerns about the strength of the global economy heading into 2024. OPEC’s latest monthly report indicated that demand growth from China and other regions is expected to slow, with the group now forecasting demand growth of only 580,000 bpd from China, down from its previous estimate of 650,000 bpd.

In addition to the weak demand outlook, OPEC warned of a potential surplus in the oil market by early next year. The IEA echoed this sentiment, citing that oil inventories remain high, with global storage levels reaching 1.2 billion barrels. The agency also pointed out that spare production capacity among OPEC+ members remains at historically high levels, further increasing the likelihood of a surplus in 2024 unless there are major disruptions to supply.

U.S. Tightens Sanctions on Iranian Oil Exports

In a separate development, the U.S. imposed tighter sanctions on Iran’s oil exports, targeting 23 tankers and 16 entities involved in facilitating the flow of Iranian oil to China. Despite these sanctions, Iran’s oil exports have remained resilient, with approximately 1.6 million bpd still reaching China’s refiners. However, the new round of sanctions is expected to reduce this flow, which could impact global oil markets if the sanctions effectively curtail supply from Iran.

Refining Margins and Weaker Seasonal Maintenance Add to Bearish Pressure

Adding to the bearish sentiment, global refining margins have fallen to their lowest levels for the month of September since 2020. The decline in refining margins signals that the downstream oil sector, which experienced a boom due to pandemic disruptions and sanctions on Russia, is now facing headwinds. The IEA revised its forecast for global refining runs this year, lowering it by 180,000 bpd to 82.8 million bpd. The agency also expects only a modest 0.6 million bpd year-over-year increase in refining throughput for 2025, suggesting that demand for refined products remains weak.

This has led several refiners to cut production. Refineries in Taiwan and South Korea have already reduced throughput, and European refiners in Spain and Italy have followed suit. U.S. refiners are also beginning to pull back as distillate fuel oil supply has dipped 6% year-over-year amidst declining manufacturing activity and higher biofuel consumption.

Citi Revises Oil Price Forecasts Amidst Uncertainty

Citi, one of the major U.S. banks, revised its oil price outlook in light of the current geopolitical tensions and weak demand forecasts. While maintaining a baseline forecast of $74 per barrel for Brent crude in Q4 2024 and $65 per barrel in Q1 2025, Citi raised its bull case scenario to $120 per barrel, up from its previous estimate of $80 per barrel, citing the potential for supply disruptions in the Middle East. The bank sees a 20% probability of this bull case scenario occurring, up from 10%, as tensions between Israel and Iran remain a significant risk to the global oil supply chain.

Bearish Outlook for 2024?

Despite the potential for geopolitical disruptions, the general outlook for oil prices heading into 2024 remains bearish. With weak demand from China, a slowdown in global economic activity, and the possibility of surplus supply, analysts expect oil prices to remain under pressure. OPEC’s continued downgrades of its demand forecasts further signal that the group is adjusting to a reality of slower growth, driven by both economic factors and a shift towards cleaner energy alternatives such as electric vehicles.

While geopolitical risks will continue to play a role in shaping oil prices, the market’s focus is increasingly turning to macroeconomic fundamentals, which suggest that demand will struggle to keep pace with supply in the coming months.

Final Thoughts: What Lies Ahead for Oil Markets?

As global oil markets move towards the end of 2024, several factors will be critical in shaping the price trajectory. The easing of geopolitical tensions, primarily concerning Israel and Iran, has temporarily calmed fears of a significant supply disruption. However, weak demand from China, coupled with a potential surplus in global oil supplies, casts a shadow over future price gains. Both OPEC and the IEA’s downward revisions of demand growth suggest that 2024 may be a challenging year for oil producers, particularly if the global economy continues to underperform.

Investors should remain cautious, keeping an eye on further developments in China’s economic performance and the unfolding geopolitical situation in the Middle East. While Citi’s bullish case scenario presents a possibility for price spikes, the baseline forecasts point to more moderate prices in the near term, reflecting the complex interplay of supply and demand dynamics that will shape the oil market in 2024 and beyond.

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