Crude oil outlook muddied by interference and low volatility

The crude oil price has stabilised after a tumultuous start to the week that saw a 5-week peak before running back into the range.

This kind of price action has been a hallmark of many asset classes whereby a range is established, it breaks on either side, and then retreats back inside the range.

From a macro perspective, this might reflect the juxtaposition of central banks and the dilemma they face between reining in inflation while keeping their respective economies afloat.

Up until recently, the tightening cycle was deemed necessary, and in some aspects essential for the long-term well-being of the financial stability and prosperity of society. The problem now is the uncertainty around monetary policy and markets seem to be reflecting this unknown rate path.

Looking at volatility across markets and it is apparent that this directionless pattern has become entrenched.

The widely watched VIX index, a measure of market-priced volatility on the S&P 500, dipped to its lowest level since February 2020 this week.

Similar measures of volatility across bonds, currencies, oil and gold have crumbled in the last few days. See the chart below. A lower level of volatility might lend itself to more range trading scenarios.

Cross market volatility chart – bonds (move), S&P 500 (VIX), oil (OVX), gold (GVZ) and fx (EVZ)

For crude oil, the lack of follow-through from the OPEC+ production cut announced over the weekend may reveal the underlying weakness in global demand.

On the flip side, the US has made it clear that they will seek to replenish the Strategic Petroleum Reserve (SPR) should oil stay under US$70 bbl.

Potentially lending some support to black gold is the RBOB crack spread that has ticked up again this week. The RBOB crack spread is the gauge of gasoline prices relative to crude oil prices and reflects the profit margin of refiners.

RBOB stands for reformulated blendstock for oxygenate blending. It is a tradable grade of gasoline. If profitability increases for refiners, it may lead to more demand for the crude product.

At the same time, the difference in price between the front two WTI futures contracts is relatively benign and might be suggestive that the range scenario is intact for now.

WTI crude oil, crack spread, backwardation/contango, volatility (OVX)

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