China demand the ‘one thing to watch in crude oil,’ strategist says

CIBC Private Wealth Senior Energy Trader Rebecca Babin joins Yahoo Finance Live to discuss news that Russia will cut 500,000 barrels of oil production a day, market sentiment, and the outlook for oil prices.

Video Transcript

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JULIE HYMAN: Russia is cutting back on oil production by 500,000 barrels a day beginning in March to counteract sanctions. Our next guest says, while the cuts are being positioned as a choice, it's more than likely a necessity. CIBC Private Wealth US Senior Energy Trader Rebecca Babin joins us. Now, Rebecca, it's great to see you.

So this news came out and the oil market didn't necessarily react as much or like one would've expected. Can you walk us through why, what the market was expecting from Russia, and how it's being read?

REBECCA BABIN: Sure, so the market was pretty ready for Russia to cut production in the start of 2023. Alexander Novak, the Energy Minister in Russia, had indicated in late December that they were going to cut production by 500 to 700,000 barrels in the beginning of the year.

Now, Russia, as you mentioned, is positioning this as a choice. We are cutting this production to punish those who are imposing price caps and sanctions upon us. And I think that's a way to kind of get the market to move higher [CHUCKLES] so that they can sell fewer barrels for more money and hopefully make up the revenue. The reality is, they're probably having a hard time moving these barrels.

And this is because as we moved forward into the February 5 sanctions package on Russian products, we're bumping up into a smaller market for Russian products and fewer tankers that can actually ship products. So if Russia can't move its products effectively, it needs less crude oil demand to feed into its refinery and, therefore, has to cut production.

Almost every analyst on the Street has been penciling in at least 500,000 barrels of Russian production cuts in 2023. And most are looking for closer to 800,000. So this was a confirmation of what analysts had expected. And if we hadn't gotten it, the market would have been off harder. And it is an incremental positive that they cut production, but I think the market expected it and is needing to see more to really keep the production side of the story alive for crude.

BRIAN SOZZI: Rebecca, what's more top of mind with investors in the oil patch right now, is it these Russian cuts or is it the chance of a mild recession in the US?

REBECCA BABIN: Good question. I think it's the chance of a mild recession in the US. The Russian story-- if we reverse back to 2022-- it was a supply-led rally and it faded hard into the end of the year. It seems that the market is going to reward demand-driven stories much more than it's going to worry about supply.

Russia has found a way to find end markets. The market is efficient enough that if the price is right, product seems to find a home. So demand is really going to be where the conviction lies. And if there's a little bit of a question about where US demand is going to be or European demand, it is going to create some downside risk.

JULIE HYMAN: And what about Chinese demand, right? Where do you stand on that? Because that has also been a big question and a big pivot point for oil over the past year.

REBECCA BABIN: So that is the center point of the BOLL thesis is Chinese demand rebound in 2023 for crude oil. The swing factors I'm seeing are it could be as big as a million barrels of demand, incremental demand, to as much as three million barrels, depending on how the reopening plays out.

It's underpinning every bullish trade on the Street, is Chinese demand. It's the story. The one thing-- if there's only one thing to watch in crude oil, it's Chinese demand. It's not-- it's less about the recession in the US. It's less about Russian supply. It's Chinese demand.

So I think when we look at what's happening in the market, we're seeing a market that's really anticipating this. And we are seeing incremental demand from China. But it's not linear and it's not quite as fast as the expectation maybe is.

So we're not able to break out of this current trading range until we really see in the physical market some tightness coming from Chinese demand. That doesn't mean it's not coming. And I think that it is. But the magnitude and the timing of it is what keeps the market on its toes and trading with a lot of volatility.

BRIAN SOZZI: We've seen gas prices really continue to ease here. Do you think that's mostly due to demand destruction, meaning that consumers have been dealing with these high gas prices for six months maybe in more than a year in some cases, and they're finally starting to drive less and pull back?

REBECCA BABIN: I don't think it's that. I mean, I do think there's been some softening in demand. If you look at the weekly numbers that are highly volatile that come out, you know, it has come off a little bit. I don't think it's necessarily this behavioral change. I think it's a little more seasonal. This is not a seasonally strong driving period, per se. So the numbers are-- I can see why gas prices have come off.

And frankly, we've had some builds in inventory over the last month, just as we've been able to have some refiners do, you know, coming on, doing their work, importing some-- you know, importing some gasoline. And that's really alleviated some of the pressure on the prices at the pump. I don't think it's demand destruction.

JULIE HYMAN: Do you think they're going to last and stay down?

REBECCA BABIN: So I don't think they're going to stay down for the summer. I think we're going to see another uptick and potentially a spike over the summer. And the reason for that is that's going to coincide with when Chinese demand is really kind of really ramping. So I don't think we're set up for a really quiet, easygoing summer on prices at the pump so I would enjoy it for now and prepare for higher prices in the summer.

JULIE HYMAN: Noted. Sozz will be filling up the gas cans for his garage.

BRIAN SOZZI: Yeah, those nice VA gas guzzlers. Let's go. Here we go.

JULIE HYMAN: CIBC Private Wealth US Senior Energy Trader Rebecca Babin. Rebecca, thanks a lot. Appreciate it.