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Will recession fears weigh on WTI?

Crude oil prices are firming as tight supply woes remain a concern; the Federal Reserve is set to hike, but the degree of a slowdown is unknown and if backwardation remains high, where will WTI crude end up?

Crude oil started the week on a positive note ahead of the Federal Reserve meeting this Wednesday, where the market anticipates that they will raise rates by 75 basis points (bps).

The rhetoric from the Fed to quell damaging inflationary outcomes appears certain to lead toward an economic slowdown. The debate is centred around the potential recession and its scope and depth.

Such a slowdown in the world’s largest economy would normally see crude come under selling pressure with dwindling demand. Due to supply side constraints, WTI has remained relatively buoyant, and this is the dilemma for oil traders.

An indication of underlying supply and demand dynamics within the oil market is backwardation. It occurs when the contract closest to settlement is more expensive than the contract that is settling after the first one.

It highlights a willingness by the market to pay more to have immediate delivery, rather than having to wait. Backwardation had been rising prior the Russian invasion of Ukraine along with the price of oil.

The chart below illustrates that the current level of backwardation remains at an elevated level and could be an indication that supply frailties remain more of a concern than the impact of a recession.

Volatility in the oil market, as measured by the OVX index, has been relatively benign and may reveal that the market is not overly concerned with current pricing.


WTI crude oil, backwardation and voltility (OVX)

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This information has been prepared by IG, a trading name of IG Australia Pty Ltd. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients.

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