OIL PRICE OUTLOOK: SLIGHTLY BULLISH

• Oil prices plunge on recession fears and hit near-month low, but selling looks overdone
• Despite last week’s steep decline, tight energy markets amid structural imbalances in supply and demand create a constructive backdrop for WTI and Brent
• In terms of technical analysis, WTI sits above a major uptrend line, extended from the December 2021 lows. If this support holds, prices could rebound in the near term.

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After a solid performance at the beginning of the month, crude oil prices violently this week, down sharply with risky assets including equities. Heading into the US long weekend (June 16 holiday observed Monday), the benchmark West Texas Intermediate (WTI) index was down more than 10% at $107.7 a barrel for the whole week, its lowest level in almost a month, weighed down by fears of recession. The S&P 500, for its part, was on its way to to lose on 5% over the same period, although the downward pressure eased on Friday for the stock market index.

Investors are increasingly concerned that The Federal Reserve’s aggressive hiking cycle aimed at curbing inflation, which is at its fastest pace since 1981, will lead the US economy to a hard landing, a scenario that could significantly undermine demand for commodities.

This past Wednesday, the The Federal Reserve increased its borrowing costs three-quarters of a percentage point to 1.50-1.75% and reported that it will deliver another 150 basis points of tightening this year, a move that will push the fed funds rate above neutral and into restrictive territory. Restrictive monetary policy during a downturn in activity will become another hang out Gross Domestic Product (GDP)increasing the likelihood of a slowdown in the world’s largest economy.

Despite headwinds to growth, oil maintains a constructive perspective. For example, even if energy consumption were to decrease due to demand destruction, extremely tight markets and structural shortages should limit the decline.

By focusing on other catalysts, China should crude import ramp heading into the second half of the year as mobility improves following recent COVID-19-induced lockdowns. In addition, Russian oil exports are expected to decrease following the progressive embargo of the European Union, further aggravating imbalances between supply and demand in the world. It is true that President Putin’s government could redirect energy flow to more friendly countries, such as India and China, but logistical constraints mean that some barrels will definitely be moved, at least in the short term.

For the reasons mentioned above, the weakness in oil seen in recent days could be temporary and exaggerated, to suggest that there could be a short-term rebound once the extreme fear dissipates and traders recalibrate their medium-term expectations.

TECHNICAL OIL ANALYSIS

After this week’s sharp selloff, Oil (WTI Futures) is hovering slightly above an extended major uptrend line from the December 2021 lows, now breaking above the $106.50 zone. If tested, this line, which has guided prices impeccably higher since the end of last year, could act as strong support, paving the way for a short-term technical rebound from these levels. If the bullish reversal scenario occurs in the next few days, initial resistance appears around the 50-day simple moving average followed by the $112.00 area. On more strength, the focus shifts towards $116.50.

On the other hand, if the sellers maintain control of the market and WTI eventually breaks decisively below $106.50, we could see a pullback towards $104.50, the 38.2 Fibonacci retracement. % of the December 2021/March 2022 rally. Should this floor be breached, selling activity could intensify, exposing the $96.50 zone, the 50% Fib retracement of the move discussed earlier.

DAILY CRUDE OIL CHART

WTI Oil chart prepared using TradingView

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—Written by Diego Colman, Market Strategist for DailyFX