Friday, 22 May 2020

If Oil Prices Rebound, Where Will Ringgit Be?

Nearly a month after one of the crude oil futures contracts fell below zero, it has rebounded. Now it is nearly USD 33 a barrel.

Oil prices fell with fears of a shortage in global oil storage capacity. The U.S. Energy Information Administration (EIA) is of the view that the rate of inventory builds peaked in April, and as oil demand begins to return and oil supply reduces, price will begin to rebound. According to EIA, global oil demand is expected to exceed supply beginning in the second half of 2020. Prices could then steadily rise.

The EIA forecasts that Brent crude oil prices will rise to an average of USD32/b during the second half of 2020. The average Brent oil price will be USD48/b in 2021, reaching USD54/b by the end of the year. This price forecast reflects an expected global oil consumption of 97.4 million barrel per day during the second half of 2020, along with relatively high compliance of announced OPEC+ production cuts, both of which are uncertain. Also, the response of U.S. shale industry to the current low prices will affect the oil price path in the coming quarters.

Considering weakening oil prices, the Ringgit could be weaker in the short term.

The above graph shows the regression plot of Brent Oil Price vs. Ringgit with monthly data retrieved from May 2010 to April 2020. The scattered blue dots plot out the historical exchange rate (USD/MYR) corresponding to respective Brent Oil Price. The fitted regression line (the blue line) on the other hand represents the relationship between exchange rate and oil price. In short, the graph shows that the Ringgit weakened when oil price declined.

Based on our regression model (R2 = 0.77), with average USD32/b Brent crude price in second half of 2020 as forecasted by EIA, Ringgit could slip to 4.4312 against the USD. But with oil price reaching USD48/b on average in 2021, the Ringgit could hit 4.1656 against the USD.

“The ringgit is more dependent on local conditions. It will likely weaken in the short term because of the knee-jerk sentiment, but should recover by the midterm,” said Alliance Bank chief economist Manokaran Mottain. His projections (22 April 2020) are for the ringgit to hit the RM4.30 to RM4.35 mark by year end.

Our forecast is based on a single dependent variable model where oil price change is the only explanatory variable for any exchange rate change. However according to Manokaran, the ringgit used to track oil prices very closely but not in recent weeks. He pointed out that another factor providing some stability for the ringgit is the foreign fund flow into the bond market. Carry trades are happening out there with foreign fund managers taking advantage of Malaysia’s interest rates. Thus, Manokaran expects the ringgit to be relatively stable due to the influence of the bond market. What do you think?

Where do you think exchange rate will be by year end? 1 USD = free polls

1.     Short-Term Energy Outlook, 12 May 2020, EIA
2.     Tom Kool, The Relentless Oil Price Rally, 15 May 2020
3.     Ringgit could face weakness before picking up, 22 April 2020, The Star

No comments:

Post a Comment