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Podcasts from Confluence Investment Management LLC, featuring the periodic Confluence of Ideas series, two bi-weekly series: the Asset Allocation Bi-Weekly and the Bi-Weekly Geopolitical Report (new episodes posted on alternating Mondays), and a new monthly Q&A format called the Confluence Mailbag.
Welcome to the Confluence Investment Management biweekly geopolitical report for 09/28/2026. I'm Phil Adler. Oil has been very much in the public eye with no end in sight at mid September to the Iran war and prices rising to over $100 a barrel. Many analysts, though, were surprised that oil did not increase even more during the first six months of the war. The main reason appears to be the way China dramatically cut its imports of oil.
Phil Adler:Confluence Advisory Director Bill O'Grady joins us today to discuss whether China is likely to continue this behavior and how investors might respond. Bill, there must be a few reasons why oil prices have not risen even more than they actually have. Are reduced Chinese imports clearly at the top of the list?
Bill O'Grady:Well, to review, we isolated five reasons why oil prices didn't hit extreme levels. To reiterate, we had a global strategic petroleum reserve release. There was a degree of leakage of oil from The Middle East. The Saudis used a backup pipeline that runs across the peninsula to the Red Sea, and the Trump administration's jawboning had the effect of reducing long speculative activity. But China's decision to cut imports was, I think, the key.
Bill O'Grady:Of the five, the one that was completely unexpected was China's actions. Without it, the odds of a major price spike would have been much higher. It's unprecedented outside of a deep recession or pandemic that demand falls that rapidly.
Phil Adler:Is it fair to say that inventories of oil held by China must have been very high as the war began?
Bill O'Grady:Their inventories, even their commercial ones, are a state secret. We can estimate some of their storage via satellite images which show when on land tanks have lower roofs, but underground storage is completely unknown. But estimates suggest total crude stockpiles were probably about 1,200,000,000 barrels of crude oil.
Phil Adler:Well, broadening our view for a moment, could holding plenty of reserves of oil be part of a a broader Chinese government policy to prepare for a myriad of possible supply disruptions?
Bill O'Grady:Well, I think so. China under chairman Xi has developed a dual circulation policy, which is designed to make the world dependent on China, but to reduce China's dependence on the world. Sometimes analysts speculate that Chinese inventory accumulation is moving to a war footing. I disagree. I think it's more about giving Beijing optionality.
Phil Adler:Relatively modest increases in oil prices do relieve a lot of pressure on world economies. Does China, in particular, gain an extra edge by cutting imports and holding prices relatively in check?
Bill O'Grady:You know, it's not an idea I developed in the report, but it's certainly possible. Dual circulation notwithstanding, China's economy is deeply dependent on exports, and a global recession would hit their economy. Now that being said, I suspect that this wasn't part of their policy goals. I suspect it was just a happy circumstance.
Phil Adler:Bill, I'm interested in a point you made in your written report dealing with Marxism. How how is this type of inventory behavior consistent with the type of Marxism practiced by China?
Bill O'Grady:Well, Marxism emerged from the classical economists who tried to reconcile the intrinsic value of something, which they referred to as use value, and what it sold for or its exchange value. The classical economists, Smith, Ricardo, and others wrestled with this issue and and never really did resolve it. Marx didn't either, other than to argue that the two should be equal. Modern economics solved this problem by suggesting use value was irrelevant. Alfred Marshall made the change, and doing so allowed all sorts of elegant math to detail how markets work.
Bill O'Grady:In modern economics, price is merely a distribution signal, nothing more. But it would make sense for China, would be holding on to this idea of use value and maybe thinking that oil isn't worth $200 per barrel.
Phil Adler:So might the way China manages inventories change the rules on commodity investments?
Bill O'Grady:Well, I think so. If China's going to try and manage prices, to reduce volatility, maybe to match use value to exchange value. It should reduce demand when prices are high, boosting it and accumulating inventory when prices are low. These actions signal to investors that commodity investing may not be as profitable as it might be without China's action. At the same time, though, it makes investing in commodity producing companies more attractive as stable but higher prices make earnings more predictable and thus give those earnings higher value.
Phil Adler:Well, concentrating for a moment on investments, are companies up the production ladder like refineries even more likely to benefit from this environment?
Bill O'Grady:Well, in the current environment, yes. But that may not always be the case. It's more that if we avoid spikes in price, we'll also have less demand destruction, which is better in the long run for producers. We note that this has always been Saudi Arabia's position on oil prices, which makes sense because it has such huge reserves. OPEC plus nations with less reserves tend not to support such ideas.
Bill O'Grady:In other words, the Saudis have tended to be dovish on prices, whereas other members want to maximize prices.
Phil Adler:Well, a key question is whether China can sustain this behavior as the war drags on. Are there signs that China is beginning to increase its oil imports?
Bill O'Grady:Well, there there are, but it doesn't look like it's because they want to boost the inventory of crude oil. They appear to be ramping up refining activity to meet the inventory of product. But once those product inventories are rebuilt, I expect oil imports to be throttled back again.
Phil Adler:Well, how do you recommend investors handle this uncertainty over future oil prices?
Bill O'Grady:Well, we like oil companies here. China's activity makes them even more attractive, and the conflict in The Middle East shows no signs of stopping.
Phil Adler:Thank you, Bill. The title of this week's report is the geopolitics of China's energy policy, and you can find a link to the written report on the Confluence webpage, confluenceinvestment.com. Our discussion today is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice, And this information does not constitute a solicitation or an offer to buy or sell any security. Our audio engineer is Dane Stole.
Phil Adler:I'm Phil Adler.