Venezuelan politics play key role amid bullish breakout in crude

Venezuela has been hitting the headlines for the wrong reasons of late, with a huge humanitarian crisis turning the country into the focus of a global tug of war. Europe and the US are backing Congress leader Juan Guaido to lead the country, while China and Russia stand behind the embattled leader Nicolas Maduro.

Unsurprisingly, we are once again looking at a potential US involvement in a nation with huge oil reserves. After all, Venezuela has the largest proven oil reserves of any country globally. While there is little speculation that the US seeks to take control of those reserves in a manner seen in Iraq, this is a country rich in resources - which makes this ongoing crisis all the more interesting for financial markets.

Below we can see that Venezuela accounts for a quarter of all OPEC reserves, and thus the ability to release or restrict this product will be a huge factor in prices going forward.

With the International Monetary Fund (IMF) forecasting an inflation rate of 1,370,000% (yes, 1.37 million percent!), we are seeing a huge exodus as people struggle to afford even the most basic goods. With all the skilled workers leaving for pastures new, the nation has experienced a huge brain drain, which also justifies much of the disruption to the country’s oil production.

However, the US seems to have a 'Trump' card when it comes to Venezuelan oil exports. Firstly, the US has been one of the biggest recipients of Venezuelan crude exports, with the chart below highlighting that while supplies fall, the US remains a critical source of demand. This highlights why US President Donald Trump’s decision to impose sanctions on the importing of Venezuelan oil is so crucial. Much like the Iranian sanctions, we have seen the US attempt to turn other nations away from their product, with US National Security Adviser John Bolton warning that any nation buying Venezuelan oil would be enabling the theft of Venezuelan resources. Despite warning that it 'will not be forgotten' if a nation buys from Venezuela, we have yet to see any sign that the likes of India and China are heeding this warning.

However, the US also have another ace up their sleeve which comes in response to the type of crude Venezuela produces. Their oil is particularly heavy, and thus requires a significant amount of refining before it would be suitable for the marketplace. Before these sanctions, the US shipped a huge amount of oils and distillates to Venezuela to help improve their product. With the US now restricting the export of diluents to PDVSA (the national oil company), Venezuelan oil exports are likely to be hit hard by both production and demand problems.

While the country appears to be focusing on cash buyers such as India, the nation will continue to see declining crude production which has been a constant throughout Maduro’s presidency. Interestingly, if we look at the relationship between production and exports, there has been a tightening which is likely to reverse as the country finds it more difficult to treat their heavy crude for export. The trend is clearly downwards, and the US sanctions are likely to drive exports further down.

So where does that leave us? Well, we are faced with two wildly contrasting situations, each of which will have a significant impact on crude prices. The current situation is the default position, and could run for some time yet. The decision from Maduro to dig his heels in rather than hand over power to Guaido means that we are likely to see crude exports continue to tumble. This month saw Maduro openly calling for early parliamentary elections, yet whether they will take place remains to be seen. Such an event is likely to be highly rigged in any case, leaving expectations low even if it is finally undertaken. This means that for now we are likely to see Venezuelan concerns provide support for crude prices. The Brent chart below shows a bullish breakout, with the completion of an inverse head and shoulders formation. Thus, the current outlook is overwhelmingly bullish with little chance of a significant breakthrough in the near term.