Crude oil has been in a solid uptrend that started in the middle of December last year. Managed money funds held a substantial net short futures positions as industry data reflected supply gluts in crude inventories as well as byproducts like gasoline. However, these supply gluts were intentional; oil companies were leveraging refining rates to build up gasoline inventories in preparation for the spring and summer driving seasons. They also leveraged the seasonal trend of refining maintenance, which starts around the beginning of the year, to tighten refining output while also drawing down inventories across the board. Given the Arctic Blast most of the U.S. experienced at the start of the year, which also took several refining operations offline especially in the Bakken region, petroleum demand continued to rise at a gradual rate.

During the Q1 earnings season oil companies stressed the need to preserve capital after paying down long-term debt during the pandemic, now focusing on returning cash to shareholders through dividends, stock buybacks, or acquiring assets within high-producing regions like the Permian Basin. Oil companies really do not have an incentive to flood the market with oil now compared to the pre-pandemic market structure, especially since OPEC+ has cut production levels to stabilize prices. This is where we are today. The “just in time” inventory strategy, usually utilized by grocery chains, has now been adopted by energy companies. This is reflected in the continued backwardation of oil futures, reflecting low storage cost and high near-term demand.

When considering geopolitical risk factors and resulting price action for commodities, the market will generally focus on two items: infrastructure disruptions and logistical disruptions. These are the two factors that can push prices higher, especially when considering military conflicts. Right now, the market does not believe energy infrastructure in Iran is at risk. In fact, it is "perceived"—and I highlight "perceived," which is critical—that striking Iran’s oil infrastructure currently is not in the U.S.’s best interest due to current reflationary pressures.

Next, is the logistics factor. The Strait of Hormuz, which connects the Gulf of Oman to the Persian Gulf, is one of the most critical pathways for petroleum trade in the world as over 21 million barrels of oil and oil byproducts flow through the strait daily according to the EIA. To put that into perspective, that is about 1.6 times the daily oil production of the United States, the largest oil producer in the world. Iran has the ability to impact traffic throughout the strait, but after their initial strike, they have signaled that no other retaliatory measures will take place unless Israel strikes back. So, in essence, if the supply infrastructure is not at risk at the moment, and logistics lines will not be impacted at the moment, the market has no long-term reason for advancing oil prices based solely on this event.

The fundamental data around China’s reopening progress and consumers in the U.S.'s ability to be resilient amidst perceived tightened monetary policy are two factors for continued oil strength. Also, when considering emerging markets, especially in South America which continues to see robust industrial investment, the backdrop for stable oil prices has been set. Until these data points shift to decelerating trends, energy prices may remain within a range of $80-$85 per barrel.