$80 oil sends the market toward demand destruction, Morgan Stanley says

September 30, 2021: -On Tuesday, the current energy market picture looks good for oil bulls.

International benchmark Brent crude passed the long-anticipated threshold of $80 for each barrel, though it’s since slipped back down to trade at $78.47 by Wednesday at 10:30 a.m. in London. West Texas Intermediate traded at $74.73 per barrel for the same time. 

With winter ahead and a gas crunch in Europe, the demand picture appears promising. But demand destruction can be right around the corner as prices climb higher, some experts warn.

“Oil prices have disconnected from the marginal cost of supply. Instead, they are traveling to the level where demand destruction kicks in, which is estimated at ~$80/bbl.” That’s what Morgan Stanley wrote in June, and the bank wrote, “This remains our thesis.”

It added that “the price at which demand destruction kicks in can be fiendishly difficult to estimate. We left our price forecast unchanged for now but recognized that, on current trends, upside to our bull case scenario to $85/bbl exists.”

Morgan Stanley foresees the global oil supply getting tighter, citing an average of 3 million barrels of crude per day of inventory draws in the previous month, compared to 1.9 million barrels per day marked in the preceding year.

“These draws are high and suggest the market is more undersupplied than generally perceived,” the bank analysts Martijn Rats and Amy Sergeant said. 

Furthermore, flights and transport have picked up, with Flightradar data on commercial flights “closing the gap to pre-covid levels,” they said.

Still, not all the signs are bullish.

On Tuesday, the World Bank said that the Delta variant is slowing economic growth in East Asia and the Pacific, and growth forecasts have been downgraded for most countries. And China is going through a potential decrease with its Evergrande crisis and a surging power shortage that’s hitting factories, homes, and supply chains. 

“China’s economic troubles are casting a darker shadow on the demand side of the oil coin and hence the price outlook,” warned Stephen Brennock, a senior analyst at London-based PVM Oil Associates.

More energy prices will fuel even higher inflation, which poses a huge threat to demand.

“Rising oil prices have been one of the biggest drivers of inflation,” Brennock wrote on Tuesday. “And a worsening inflationary situation will act as a drag on the fragile economic recovery and oil consumption. This gets us neatly onto the issue of demand destruction,” he added.