Amid a widespread correction in global stock markets, the energy sector has been one of the few bright spots during the 2022 trading year.
Crude oil prices have rallied roughly 45%, while natural gas prices have spiked 117%. After some rough times in 2020, bullish energy investors have benefited greatly so far this year.
One of the biggest drivers of the higher price environment has been the ongoing war in Ukraine. In response to Russia’s expanded invasion, many countries have instituted boycotts of Russian energy exports. As illustrated below, the United States has been steadily cutting back on Russian oil imports in recent months.
That’s a critical development because Russia is one of the world’s top three producers of crude oil, pumping out roughly 11 million barrels per day. At present, however, estimates suggest that only 8 million barrels of that 11 million are reaching the end market—meaning about 3 million barrels of Russian crude are currently “offline” as a result of the boycotts.
As one of the world’s most important commodities, the crude oil market typically rides the knife’s edge when it comes to demand and supply. For this reason, a 3 million barrel deficit is a major factor and helps explain why prices have rallied so sharply in 2022.
Coincidentally, however, there’s been another major development running concurrent to the Ukraine war that’s helped ease the global energy crisis. About the same time the Russo-Ukrainian War ratcheted up, a fresh wave of COVID-19 started rolling through China.
China is one of the world’s largest consumers of imported oil, so rolling economic lockdowns in that country have helped to reduce demand at a time when global supplies are especially tight.
However, the current wave of COVID-19 in China appears to be slowing, which means that demand for crude oil could crest higher in the coming weeks. This will undoubtedly put further strain on global oil markets and contribute to higher prices.
This confluence of factors has forced many countries to consider other options for sourcing crude oil.
One outlet for potentially increasing supply is The Organization of the Petroleum Exporting Countries (OPEC). However, Russia is now a part of OPEC—via the “OPEC+” expansion—which means that from a political standpoint, OPEC+ probably isn’t too eager to increase production.
Currently, OPEC+ has only agreed to increase production by about 420,000 barrels/day, which is well short of the current shortfall.
As a result of these complications, the United States government has been toying with the idea of re-engaging with Venezuela, a country that’s been plagued by political and economic strife for many years but also happens to control one of the largest reserves of crude oil on Earth.
The Venezuelan Oil Gambit
Venezuela has long been an integral part of the global energy sector. Back in 2011, the country was one of the top four global producers of crude oil by daily production, pumping out nearly 3 million barrels per day.
Unfortunately, political turmoil in Venezuela over the last decade has served to derail the underlying economy, and with it, the Venezuelan oil industry. These days, Venezuela is producing less than 1 million barrels/day of crude, and due to negligence and corruption, the country’s aging energy infrastructure is in need of a serious upgrade.
Unfortunately, Venezuela is dealing with a bevy of other problems, such as hyperinflation, high unemployment, poverty, severe crime and widespread corruption. Due to these problems, the country’s financial situation is extremely tenuous, which means the country’s energy situation can’t be turned around without outside assistance.
The current regime in Venezuela is led by President Nicolas Maduro, the man who assumed power after Hugo Chavez died in 2013. But Maduro is widely viewed as a corrupt despot.
In response to Venezuela’s deteriorating political situation, the United States decided to sanction the country back in 2017. Those penalties initially focused on power brokers in the Maduro government but were expanded to include the Venezuelan national oil company, Petroleos de Venezuela S.A., in 2019.
The intent of the sanctions has been threefold: cutting off financing to the Venezuelan state, preventing members of Maduro’s inner circle from enriching themselves and punishing behavior that undermines the democratic process.
But as a result of the current oil shortage, the U.S. has been forced to rethink that approach.
After Russia expanded its invasion into Ukraine, the White House announced it was considering new policies that could help alleviate current oil shortages—including working with Venezuela to increase available supplies in the market.
On May 17, the U.S. took some early steps to bring Venezuelan oil back into the international fold. On that day, the U.S. State Department announced that Chevron (CVX) would be permitted to initiate fresh dialogue with the Venezuelan oil sector.
Chevron is the last American company with significant operations in Venezuela and had been limited to conducting only “essential maintenance” in the country as a part of the 2019 sanctions.
That said, it’s also been reported that the current president of Venezuela will need to re-engage in peace negotiations with his political adversaries before any potential oil deal with the United States can move forward.
Using a carrot-and-stick approach, the U.S. appears to be pushing for political reconciliation in Venezuela while using the prospect of fresh petrodollars as the potential reward for that effort. Some reports suggest that the U.S. may be prepared to purchase up to a million barrels per day from Venezeula, if certain political, economic and humanitarian conditions are met.
While nothing is certain at this point, optimism over a deal has seeped into the global financial markets, as Venezuelan bonds have rallied in recent weeks. But those bets will only pay out if the U.S. ultimately agrees to strike down the sanctions and welcome Venezuelan oil back into the American market.
One also has to consider the political dynamic in the United States, as some elected officials in the U.S. have been eager to criticize the administration of Joe Biden for its willingness to deal with the dictator of what now amounts to a banana republic. The harsh reality is that the war in Eastern Europe has basically forced the U.S. to choose between the lesser of two evils: Nicolas Maduro or Vladimir Putin.
With the world still reeling from the ongoing COVID-19 pandemic, that means the current administration in Washington is faced with yet another difficult decision.
Nobody knows for sure what happens from here, but if the global energy markets experience further shortfalls, the U.S. may ultimately be forced to make a deal with Venezuela—no matter the political dynamic in Washington, D.C., or Caracas.
And if this new source of crude oil does eventually go online, prices might finally adjust accordingly.
To learn more about trading the crude oil market, readers can review this recent installment of Splash Into Futures on the tastytrade financial network.
To follow everything moving the markets this summer, readers can also tune into TASTYTRADE LIVE at their convenience.
Get Luckbox! Subscribe to receive 10-issues of Luckbox in print! See SUBSCRIBE or UPGRADE TO PRINT (upper right) for more info or visit getluckbox.com.
Sage Anderson is a pseudonym. He’s an experienced trader of equity derivatives and has managed volatility-based portfolios as a former prop trading firm employee. He’s not an employee of Luckbox, tastytrade or any affiliated companies. Readers can direct questions about this blog or other trading-related subjects, to firstname.lastname@example.org.