There would be a fall in the price of oil – but not for long, predicts the Societe Generale’s head of oil market research, if the U.K. public votes to leave the European Union (EU).

With a positive reaction seen after several polls at the weekend showed that support for the ‘remain’ vote had gained momentum, global markets are firmly focused on the British vote on EU membership in the week leading up to the vote.

When the polls had shown the Leave campaign in the lead, there had been a decrease in oil prices last week. The risk aversion in oil markets was heightened ahead of the vote with markets on tenterhooks, noted Michael Wittner, global head of Oil Market Research and head of U.S. Commodities Research at Societe Generale.

“In recent weeks, markets have been concerned about negative interest rate policies in various countries, and a seemingly fragile global economy. However, last week, the focus on Thursday’s U.K. referendum on EU membership intensified. This has contributed to – and perhaps driven – overall risk-aversion in recent days, which has definitely weighed on the global oil complex,” Michael Wittner said in a note.

“If there is a Brexit, the negative pressure on oil prices would be driven by risk aversion, not fundamentals,” he added.

“In our view, the dramatic shift from an oversupplied to a balanced market – which is currently taking place – would overwhelm the small fundamental impact of slightly weaker demand due to currency effects. While a Brexit may result in further sentiment-driven price declines at the front of the crude forward curve of around 5 percent (order of magnitude), we would expect any such weakness to be temporary,” he said.

The polls are still tight and the margin for error is a potential upsetting factor even while the chance of a Brexit is looking dimmer now than in recent weeks. The older and younger voters who, at a very general level, tend to fall into the leave and remain camps, respectively, and the ultimate result could hinge on voter turnout among these two groups.

Wittner said that oil markets would react immediately and that it would be difficult to trade while the outcome of a Brexit is largely unknown, given that it would be an unprecedented event for Britain and the EU.

“If there is a Brexit … we would expect a further wave of risk-aversion, which would clearly be short-term bearish for crude oil at the front of the forward curve. We have seen such waves several times in recent years, with notable examples of catalysts including developments in China (the equities and currency markets), the euro zone (Greece), and the U.S. (increases to the debt limit),” he said.

As a supply and demand imbalance shows signs of coming to an end, oil prices are seeing a nascent recovery. While supply weakens, supporting prices after two years of declines, demand at a global level is predicted to grow.

Brexit or none, “the combination of healthy demand and declining supply should result in a global market that will be roughly balanced in the second half of 2016,” Wittner said.

“The long awaited re-balancing has been bullish for oil prices and we expect this to continue next year. While we are cautious near-term (Q3 16 and Q416) due to supply returning from disruptions and still-high stocks, if there is a Brexit, the key takeaway is that the shift from an oversupplied to a balanced market will, in our view, overwhelm the small fundamental impact of slightly weaker demand due to currency effects.”

The negative impact of a Brexit on oil prices would be driven by risk aversion, not fundamentals,” Wittner said.

(Adapted from CNBC)

Categories: Economy & Finance