The crude market isn't that tight, but the oil market is. The bullish narrative going into the Russian-Ukraine crisis was driven by a short-term perspective and flawed thinking around crude fundamentals. Now the excessive strain on supplying transport fuels is turning bullish fiction into fact.

Market watchers may be guilty of viewing leading indicators out of context.

Take the apparent lack of oil in commercial storage. OECD stock levels are indeed below the five-year average and have sunk to multiyear lows. But what this fails to recognize is that by any longer yardstick these inventories are still high and were over-inflated by the shale boom the previous decade, where an excess of light sweet crude had nowhere to go except into tanks.

The International Energy Agency reported OECD total industry stocks fell by 42.2 million barrels to 2,611 million barrels in February, which still puts inventories above the 2013 nadir and even above averages seen a decade earlier.

The storage argument often overlooks China, too. The second biggest oil consumer has built up its capacity over the past five years, and crude stocks increased 20% since 2019, according to various analyst estimates.

Market watchers also point to OPEC+'s lack of global spare capacity, which, while true, downplays the fact that for much of the last two decades the average oil buffers have not been that much higher than the 2 million b/d mark.

There is still another 1 million b/d extra that could be brought on by the end of the year if Iran gets the green light even if that is still in the balance. Maybe that's why OPEC+'s recent meeting noted "the consensus on the outlook pointed to a well-balanced market, and that current volatility is not caused by fundamentals, but by ongoing geopolitical developments."

The argument from some corners that the mandated IEA strategic reserves release leaves the system short of emergency back-up and that the crude would have to be bought back at some point is also bizarre. It still means at least 120 million barrels entering a market in the next six months, and thus an increase in supply, that has seen few barrels lost so far, and around a quarter of that being oil products and the rest being crude.

"Despite a major war and the possible loss of some Russian crude, oil prices remained below $120/b, which proves the point that market fundamentals do not support $100/b oil," said independent energy analyst Anas Al-Hajji.

Then there were the geopolitical jitters that saw crude prices spike from the cusp of triple digits toward $140/b in March on fears of sanctions, self-sanctions, boycotts and Russian oil being removed from the market. Even now commentators are keen to point to the lost barrels when there is patchy evidence the oil numbers are falling in any significant way.

S&P Global Commodity Insights analysis notes that "Russian oil exports so far continue to largely flow," with product loadings from Russian ports proving resilient in March, even for diesel seen as the tightest part of the product mix. The destinations may have changed, but the volumes haven't. A look at the differentials for key European grades assessed by S&P Global also indicates a market awash with light sweet crude.

Even the IEA noted in its monthly oil market report April 13 weaker-than-expected demand along with steady output rises from OPEC+ and the US should offset lost Russian supplies to help "bring the market back to balance."

Crunch time

But it's crunch time in the market as current arrangements for Russian purchases made before the war come up for renewal. S&P Global expects to see a loss of nearly 3 million b/d in Russian crude and products exports in the coming months as more buyers shun Russian oil.

And it's the middle of the oil barrel that will bend the market out of shape. The lack of diesel stocks and the importance of Russian diesel supply to Europe is showing up in the high gasoil and diesel cracks.

Stocks of diesel and gasoil in the Amsterdam-Rotterdam-Antwerp hub in Northwest Europe dipped 1.6% on the week to an 11-year low of 1.439 million mt in the week to April 20, Insights Global data showed April 21. And TotalEnergies' European refining margin indicator surged to $46.3/mt in the first quarter, up from $5.3/mt a year earlier, as distillate cracks ballooned on the back of the Russia crisis, it said April 19.

Goldman Sachs said in a research note "the current distillate shortage is even stronger than in 2008," pointing to the low stocks and large seasonally adjusted deficit which is getting worse, along with "a large increase in jet fuel consumption this summer due to the return of international travel" and continued gas-to-oil switching.

Indeed, refiners will often wiggle between maximizing production of jet or diesel, and with both likely being tight, options to plug the gap become limited. Add to that the fact that US summer driving season will start to put pressure on gasoline supply, and the oil products mix may start looking extremely tight.

Standard Chartered noted that "oil price volatility has been mirrored by volatility in estimates of key fundamental indicators," pointing out that while the downside to Russian oil output is large, so is the downside risk to demand. It then comes down to how much that eases the pressure on demand for transport fuels along with the oil products released from the IEA.

The fundamentals could soon start to catch up to the bullish sentiment. That leaves the question as to whether the market is pricing in the risk or has misunderstood it, potentially ending up being right for the wrong reasons.