The recent action in oil prices could be painting a false picture. Several key markers look negative for demand yet, for now, tensions in the Middle East and the perceived threat to supplies from the region are preventing a big sell-off in crude.

When the war in Gaza first started there were doomsday predictions of prices in excess of $150 per barrel if the strategic Strait of Hormuz supply route was affected by the conflict.

As it’s turned out, routes through the Red Sea are proving the most difficult as Yemen-based, Iran-backed Houthi militants have launched attacks on commercial shipping. Even with these pressures, Brent crude is trading at less than $80 per barrel compared with nearly $100 back in September.

The reason is that, beyond these supply concerns, there are several bearish indicators for crude. Notably, Saudi state oil firm Saudi Aramco has started selling oil at discounted prices to Asia – with the official selling price of its Arab Light crude at its lowest level in more than two years. All the while inventories in the US have been going up.

Morgan Stanley observes: ‘Demand growth is set to slow down as the post-Covid recovery tailwinds have largely run out of steam by now. Despite low investment in production capacity in recent years, the growth in non-OPEC supply is nevertheless set to remain strong in 2024 (and probably also 2025) – enough to meet all global demand growth.

‘As a result, room in the oil market for OPEC+ oil declines – we estimate the call-on-OPEC to fall to around 600,000 barrels of oil per day in 2024. This puts downward pressure on OPEC’s market share, and upward pressure on its spare capacity.

‘History warns of such periods – on several occasions when non-OPEC supply growth outpaced global demand, a period of lower prices was eventually needed to reverse that balance.’

As it turns out the investment bank doesn’t expect a big reversal in crude – pointing to a likely extension of OPEC production cuts to come to the rescue and keep oil above $70 per barrel.

However, compliance with quotas among the cartel is often patchy at best and given ‘it’s different this time’ are often the most dangerous words in investing, we think it is worth at least weighing the possibility of a downturn in energy prices. This could have wider implications for UK stocks given the heavy weighting afforded BP (BP.) and Shell (SHEL) in the flagship FTSE 100 index.

Since the period around the invasion of Ukraine in February 2022, both companies have been pulled higher by commodity prices. If the backdrop is less helpful their operational performance and a current identity crisis around their commitment to the energy transition may face greater scrutiny.

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