AEGIS Factor Matrices: Most important variables affecting oil prices - AEGIS Hedging

AEGIS Factor Matrices: Most
important variables affecting oil
prices

Crude Oil Bottom Line - Oil prices continue to soar as global supply gets
upended. WTI finished the week at $115.68/Bbl, up to $24.09. Yeah, you read
that right, $24/Bbl.

Analysts estimate that about 4 MMBbl/d of Russian oil supply has been
disrupted. According to JPMorgan, about 70% of Russian oil is struggling to
find buyers. This statement may surprise you, because so far, energy has not
been included in sanctions levied on Russia. Buyers of Russian crude have
been “self-sanctioning,” some choosing not to do business with Russia,
whether for moral issues or the added risk that future sanctions may target
energy. News broke Friday afternoon that the Biden administration is
weighing a ban on U.S. imports of Russian crude. Oil responded by rallying
further into the close.

There are clear scarcity concerns when it comes to oil supply. There are only
a few supply sources that could relieve some pressure on price, and even
those might not be enough. First, many consuming nations have agreed to
release 60 MMBbl to provide stability to oil markets. The oil market looks to
mostly be ignoring this. Also, Iran is rumored to be near the finish line of
getting a nuclear deal, which could provide the globe with an additional 1.5
MMBbl/d of production. But more immediately, Iran also has about 105
MMBbl on the water in tankers, ready to hit the market if sanctions are lifted,
according to Kpler. Lastly, some have called on OPEC core members (Saudi,
Kuwait, UAE) to boost production beyond their quota. OPEC has so far
resisted these suggestions and, in fact, decided to follow through with only
the scheduled 400 MBbl/d increase for April.

For producers, now may be a good time to add volumes and take advantage

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of this unprecedented rally. A concentration of bullish items compounding
each other has led to prices rising quickly. They could come off quickly if the
stressors are removed.

AEGIS recommendations remain swaps for 2022 and collars in 2023.
However, collars may make sense as soon as 2H 2022, because option
volatility is high; collars are effective at mitigating high premiums and high
volatility in options. Collars are also useful to fight the extreme
backwardation.

Crude Oil Factors

Geopolitical Risk Premium. (Bullish, Surprise) We decided to add this new
factor, considering the recent turmoil hitting several countries in the eastern
hemisphere. Most of the headlines are dominated by the Russian invasion of
Ukraine and it has been the driving factor of the prices for the past two

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weeks. WTI touched $115/bbl. today and is not showing any signs of slowing
down. If sanctions do ensue that affect Russian exports, the market is
expecting a decrease in supply from Russia.

Iran. (Bearish, Surprise) The Iran nuclear deal is expected to be announced
next week which might act as a potential temporary relief to the tight oil
markets. The possibility of an end or reduction of Iran sanctions poses a
downside risk to oil prices. In our view, this is the largest bearish non-
economic factor that could pressure oil prices in 2022. As of mid-February,
Iran had 100 million barrels in floating storage, meaning it could contribute 1
million barrels per day (bpd), or 1% of world production, for around three
months, although it would be a temporary boost.

Gas-to-Oil Switching. (Bullish, Surprise) This winter, particularly in Europe,
high gas prices had encouraged gas-to-oil switching to meet power demand
and may have added up to 1 MMBbl/d of additional oil demand. We have this
as a bearish surprise because as winter ends, gas prices stabilize, and gas
becomes more economical for power generation, the additional oil demand
will likely disappear.

Oil Inventories. (Bullish, Priced In) Oil inventories in both the U.S. and abroad
are extremely low. Crude data is usually on a several-month lag. IEA data
shows that OECD inventories were at a seven-year low in November. Since
then, the oil market has likely remained in a supply deficit, so inventories are
surely lower now, as evidenced by the massive backwardation in the forward
curve. According to several shops, the global supply-demand balance is likely
to hit a surplus at some point in 2022; however, volatility will likely be
heightened with inventory levels at inadequate levels to serve as a "shock
absorber" for prices.

Economic Slowdown. (Bearish, Surprise) Higher global energy prices might
increase the potential for an economic slowdown. Macroeconomic
uncertainties could pressure oil demand, and therefore oil prices in 2022.
According to the EIA, U.S. real GDP declined by 3.4% in 2020, and they
estimate U.S. GDP increased 5.7% in 2021. They forecast GDP will rise by
4.3% in 2022 and by 2.8% in 2023. While that doesn't sound all too bad, the

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main takeaway is that crude oil demand growth would likely slow with GDP,
and if supply growth outpaces demand growth, then you would find yourself
in a structurally weaker market.

Trend. (Neutral) In the past, price trends have tended to persist, which is why
traders often refer to "momentum" or "inertia" in prices. Crude prices have
recovered all losses incurred following the "Black Friday" selloff from the
announcement of the Omicron variant and the release of more supply from
consuming nations' petroleum reserves. Crude prices rose the most in a
week since the middle of 2020, with U.S. crude up 26%.

OPEC+ Quotas. (Bullish, Priced In) The group plans to bring approximately
400 MBbl/d of additional supply into the market each month through
September. This policy has been in place since mid-2021. Since the
pandemic began, OPEC has managed oil markets very conservatively and
allowed global inventories to be depleted, which has supported oil prices.
Recently, the narrative has changed, and many analysts are now questioning
how much spare capacity the group really has left. Several countries have
underperformed relative to their quotas, namely Angola and Nigeria. These
shortfalls have exacerbated recent market tightness.

COVID-19. (Bearish, Priced In) It seems most countries have learned how to
live in a post-COVID world where the virus has become a daily part of life.
The arrival of the Omicron variant initially shook confidence in the demand
recovery, but the strain has proved to be relatively mild. Further, global
consumption has been notably resilient despite the huge increase in the
number of infections.

Product Demand Recovery. (Bullish, Priced In) Global oil demand has mostly
recovered from the pandemic lows, and consumption has continued to rise
each week. Vaccination rollouts in the U.S. and around the globe continue to
gain traction, which has muted the government response to increasing cases
from new variants. The EIA forecasts that global consumption, by the end of
2022, will catch and surpass the previous high of 101.35 MMBbl/d set back in
2019. Gasoline and diesel consumption are already back at pre-pandemic
levels; jet fuel demand has been a laggard thus far.

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USD. (Slightly Bearish, Neutral) The U.S. dollar's value has increased
substantially since September, though it has retreated since the start of
2022. Fed Chairman Jerome Powell provided hawkish guidance that the Fed
will soon begin winding down the emergency economic stimulus program and
potentially raise rates to cool inflation worries. A hawkish stance will likely
support a stronger dollar and pressure crude prices.

U.S. Production. (Bearish, Surprise) So far, operating-rig data show U.S.
private producers have responded to the increase in prices. However, many
analysts say that significant U.S. production growth is unlikely without the
help of public companies. The drastic increase in the oil price might test the
public producers to change their strategy. The shift of E&P's focus from
growth to debt reduction has caused CapEx to decline significantly, which
has led to a slow recovery in drilling rigs deployed for public companies.
Further, the depletion of economic DUCs, means that rigs are an even more
meaningful indicator of future production.

Non-OPEC Production. (Bearish, Surprise) Many prominent research groups
(EIA, IEA, OPEC) think non-OPEC production, dominated by the U.S., will
increase in 2022. If these forecasts come to fruition, it would have a bearish
impact on oil prices if the market were otherwise well-supplied.

Commodity Interest Trading involves risk and, therefore, is not appropriate
for all persons; failure to manage commercial risk by engaging in some form
of hedging also involves risk. Past performance is not necessarily indicative
of future results. There is no guarantee that hedge program objectives will be
achieved. Certain information contained in this research may constitute
forward-looking terminology, such as “edge,” “advantage,” ‘opportunity,”
“believe,” or other variations thereon or comparable terminology. Such
statements and opinions are not guarantees of future performance or
activities. Neither this trading advisor nor any of its trading principals offer a
trading program to clients, nor do they propose guiding or directing a
commodity interest account for any client based on any such trading
program.

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