In the current geopolitical environment, we would have historically expected much more volatility in the energy complex. Oddly, that has not been the case over the last 6 months. In fact, crude oil volatility is at markedly low levels given the precarious situations in the Middle East and Europe. The current levels of oil volatility are akin to those at the end of 2019, a time of relative stability in the geopolitical and economic environment.
Unlike the current situation, the low volatility levels in 2019 were not surprising. At that time the global economy was relatively stable. Central banks embraced a more accommodative monetary policy to help stimulate activity in response to concerns of slow growth and below-target inflation. Five years later, the narrative has flipped, as central banks have implemented restrictive monetary policy in response to well-above-target inflation numbers in a higher growth environment.
Along with a stable global economy, 2019 was a time of relatively low geopolitical risk. Aside from slight tensions in the Middle East, there were no significant events that would substantively disrupt the oil supply. Russia and the Middle East account for 6 percent and 48 percent of the global oil market share, respectively. Both regions are currently experiencing geopolitical unrest. Two major oil-producing regions involved in conflicts would intuitively suggest an extreme rise in volatility in the oil markets over supply concerns, but this has not been the case. There was also optimism surrounding a trade deal between the U.S. and China in 2019. The expectation of a trade deal between the two largest economies led to stability in financial markets. Conversely, China and U.S. relations have suffered in recent years due to restrictive tariffs, divergent stances on Ukraine and Taiwan, and U.S. sanctions on Chinese chip manufacturers.
A subsequent result of this geopolitical unrest is the increase in the non-dollar oil trade. In 2019, approximately 88 percent of global oil trade was conducted in U.S. dollars. The non-dollar oil trade figure has nearly doubled since, with only 80 percent of the global oil trade being dollar denominated. Non-dollar oil trade can lead to liquidity concerns, inconsistent pricing, and exchange rate fluctuations, all of which should contribute to volatility in the energy complex, but this is not the case today.
The only consistency between 2019 and 2024 environments is OPEC’s implementation of production cuts to regulate supply. Throughout 2019, OPEC implemented production cuts to manage prices. While OPEC+ has announced supply cuts for 2024, they continue to extend the deadline to support prices at the $80 level. Despite the many factors implying that the oil markets should be extremely volatile right now the chart of the month seems to suggest that OPEC+’s actions have tamed volatility in the energy complex, at least in the short term.
