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Andrew Sheets: Welcome to Thoughts on the Market. I'm Andrew Sheets, Global Head of Fixed Income Research at Morgan Stanley.

Today, several catalysts for more volatility later this month.

It's Friday, September 4th at 2pm in London.

Over more than a century of market history, Septembers have tended to see more volatility than the average month. You can't exactly set your watch by it, but the trend is definitely there. As investors come back from summer and capital market activity restarts in earnest, things historically tend to move.

This idea seems especially relevant this year. Despite the headlines, it was a pretty calm summer for markets. Since early June, U.S. stocks, yields, and credit were all modestly higher, and they got there with minimal movement. The realized volatility – that is how much these markets are moving on a daily basis – has been historically low.

September offers a number of catalysts that could test that.

First and foremost is the Fed. Inflation remains above the central bank's target, and markets are pricing a roughly 50-50 chance of a rate hike at the September 16th meeting. That's more uncertainty this close to a meeting than we've had in a while – and the impact goes far beyond a single decision. Live meetings from the Bank of Japan and the European Central Bank also loom in September.

September is also a month that historically sees unusually heavy capital market activity. That makes sense. If you're a corporate and looking to raise money, it's often better to wait until investors are back from the summer before going out looking for those funds.

But this September could be unusually active, given a growing IPO pipeline and continued funding needs from AI-related construction. And so, it's fair to say that even adjusting for September's usually heavy pace, there's an unusually wide range of outcomes around where capital market activity could land this month.

Investors are also coming back from the summer with major uncertainty still hanging over global energy markets. Morgan Stanley's commodity team still sees global energy flows as severely restricted and recently raised their forecast for oil prices, seeing them reach about $100 a barrel in the fourth quarter of this year.

The price of what's in that barrel is becoming even more extreme, with the price of diesel fuel in Europe up 140 percent since January 1st. And so, as inventories continue to draw down and questions around the duration of this conflict persist, both factors could drive more market movements.

The good news is that while Septembers have historically been more volatile months, they're not necessarily a bellwether. And that could apply again. By month-end, we should have a much better idea of the Fed's path, the scale of capital market activity, and the state of energy supply.

But until then, the level of expected volatility across many markets, particularly interest rate and foreign exchange markets, remains unusually low. Given this backdrop, we think those levels of expected volatility can rise.

Thank you, as always, for your time. If you find Thoughts on the Market useful, let us know by leaving a review wherever you listen. And also tell a friend or colleague about us today.

Welcome to Thoughts on the Market. I’m Martijn Rats, Morgan Stanley’s Global Commodities Strategist.

Today: why the oil market is tightening, and why we now see Brent reaching $100 per barrel later this year.

It’s Thursday, September 3rd, at 3pm in London.

It has been an extraordinary summer for oil. Brent — the global benchmark price for crude oil and the reference point for most of the world's oil trade — traded above $110 per barrel in mid-May, fell to $71 by early June, climbed back above $100 three weeks later, and then dropped again to $79. More recently, prices have moved higher again.

But the question now is whether that is another temporary swing. Or whether there is a sign that the underlying market has changed.

We think it has changed. Supply is tightening, inventories are falling, and some of the buffers that helped absorb earlier disruptions are fading.

The clearest evidence is in inventories. Crude oil sitting on the water fell from nearly 1.3 billion barrels in mid-July to 1.1 billion barrels recently. That was a decline of about 190 million barrels. During one four-week stretch, oil-on-water fell at the unusually high rate of 5.3 million barrels a day, the fastest four-week decline since this data series began about eight years ago.  

Usually, when there is such a large amount of crude oil that is brought on land, it drives up onshore oil inventories. However, not on this occasion. On a global basis, onshore crude oil inventories have fallen by another 38 million barrels over the same period. That means that those offshore barrels arriving were being used straight away rather than put into land-based storage.

The biggest supply issue is still the Middle East. Crude flows from the Strait of Hormuz briefly recovered to around 15 million barrels a day after the June Memorandum of Understanding. That was close to pre-conflict levels. More recently, they have been running around about 7 million. Now, Red Sea exports have also fallen sharply, from roughly 4 - 4.5 million barrels a day in March and April to around about 1.5 million barrels a day at the moment.  Therefore, total regional exports are still up from the lows in March and April, but they are sharply down from that late June peak.

Another source of support is fading: strategic petroleum reserves. These are government-held oil stocks that can be released during a disruption. Globally, those releases added around 2.5 million barrels a day to supply in March and April. But that has fallen sharply, and we do not anticipate material further releases from global SPRsafter September.

Then China is important, too. Its seaborne crude imports are normally around 10 to 11 million barrels a day, but briefly fell as low as 5 million barrels a day leaving more oil available elsewhere.  Now, China's buying activity still appears low, but at a minimum it has stabilized, and there are tentative signs of an increase. If Chinese imports have stopped falling and possibly go into reverse, they can no longer free up additional barrels for buyers elsewhere, making the global oil market tighter.

So why hasn’t crude become even more constrained?  It's because of refineries. Global refinery outages are running 5 - 6 million barrels a day above normal. Although supply of crude oil is constrained, this means that demand for crude is also reduced.

Now, the result of that is that the tightness in the system has instead shown up in refined products rather than in crude. And diesel is the clearest example of this, and the one most likely to be felt throughout the economy, since diesel prices feed straight through into trucking, freight, farming costs, and many other areas.

The front-month diesel benchmark in the U.S. was recently around $195 a barrel, versus Brent at $95. The difference between the value of a refined product and the crude used to make it is called a crack spread. For diesel, that crack spread reached around $100 per barrel, an all-time high. Over time, that gives refiners a very strong incentive to bring back capacity where they can. If they do, crude demand should rise, whilst inventories are already falling and Middle East supply so far remains constrained.

We now expect a full recovery in Middle East supply to take well into 2027. On that path, oil inventories should keep falling throughout the fourth quarter of this year as well as the first quarter of next year. We now forecast Brent to average $100 per barrel in the fourth quarter.

Now, for much of this year, the oil market had several shock absorbers, strategic reserves, abundant barrels at sea, and unusually weak Chinese imports all helped. Those cushions are thinner now. That leaves less room for another disruption, just as the road back to normal supply is getting longer.

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