Key facts
- Hedge fund manager Jeffrey Baird is watching four factors as oil markets remain expensive but not catastrophic.
- Baird runs Merritt Point Partners, a $750 million hedge fund specializing in commodities.
- Merritt Point Partners' commodity strategy has returned over 16% in the last twelve months.
- JPMorgan analysts report they lack a baseline view of the oil market for the first time since the conflict began.
- Key price-moderating forces include reliance on strategic petroleum reserves, decreased oil demand in some countries, and China's reduced oil purchases.
- The US Strategic Petroleum Reserve is nearing its congressionally mandated limit and faces operational challenges.
- Demand destruction, estimated at 4 to 6 million barrels a day, has been significant in emerging markets and China.
- China has substantially reduced its oil imports from the Middle East since the conflict began.
- High refining costs for diesel, nearing $100 a barrel, could incentivize increased refinery output.
Oil markets have settled at an expensive but not catastrophic price of around $100 a barrel, much lower than hedge fund manager Jeffrey Baird of Merritt Point Partners would have expected six months after the conflict began and following a US strike on Iran and subsequent Strait of Hormuz blockade.
Baird, who has 25 years of experience trading commodities and runs Merritt Point Partners, a $750 million hedge fund, noted that the industry is facing significant uncertainty. JPMorgan oil market analysts echoed this sentiment, stating in a report that for the first time since the conflict started, they "don't have a baseline view" and "don't know how to model the endgame."
Despite the uncertainty, Baird identified three main price-moderating forces: heavy reliance on strategic petroleum reserves, a decrease in oil demand in some countries, and China stepping back from oil market purchases. He believes these factors will continue to be important signals for how long oil prices can remain away from record highs.
Baird highlighted concerns about the US Strategic Petroleum Reserve, which has pumped out an average of nearly 25 million barrels a month over the last five months and is now just over a month's supply above its mandated limit. He also noted "operational challenges" in storage facilities, with some oil potentially too "briney and heavy" to use or difficult to pump out. Reserve outflows slowed to a "trickle" of 400,000 barrels last week, and if this pace continues, prices could rise.
Demand destruction, estimated by Baird at 4 to 6 million barrels a day, has also played a significant role, particularly in emerging markets and China, partly due to high prices and China's electrification projects. However, Baird warned that some of this demand response might be temporary.
China, the world's largest importer, has substantially reduced its oil purchases from the Middle East since the conflict began, cutting them in half from roughly 14 million barrels before the conflict to seven million by July, according to Baird's estimates. This decision has freed up an additional four to seven million daily barrels. China's purchases recovered about half of the pullback after hostilities between the US and Iran halted. Baird anticipates China may slow its purchases again, especially with Saudi Arabia's East-West pipeline offline, reducing its export capacity.
Baird cautioned against excessive pessimism, drawing on his experience that market actors will find solutions when significant money is at stake. He pointed to the highly refined and extra-expensive diesel market, where cracks are nearing $100 a barrel, which should motivate refiners to maximize output.