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The oil rally is 'for real' and should continue into year-end, predicts Citigroup's Ed Morse

  • Citigroup's Ed Morse says the oil price rally is "for real" and is being driven by fundamentals and financial positioning.
  • Citigroup's fourth-quarter price target for U.S. crude is $54 a barrel.
  • Natural gas prices could rise to $3.70 per mmBtu by the end of the winter, Morse added.
  • Morse is the well-known global head of commodities research at the bank.

Oil prices were in retreat on Monday following a big surge into the end of the third quarter, but Citigroup's Ed Morse still has faith the market can keep rallying.

"We think it's for real," the global head of commodities research told CNBC on Monday. "We're in the middle of a bit of a sell-off, maybe even testing the $50 level for WTI, but the sell-off is profit-taking more than anything else, and the momentum in the physical markets, joined by the momentum in the financial markets, really point to a higher price between now and the end of the year."

On Monday, WTI fell towards $50 a barrel, while Brent slipped below $56. Citigroup's forecasts call for U.S. West Texas Intermediate crude of $54 a barrel for the fourth quarter, and $58 a barrel for Brent crude, the international benchmark.

That would mark a divergence from the historical trend. U.S. crude oil more often than not falls in the final three months of the year, according to a study performed by CNBC using hedge fund analytics tool Kensho.

U.S. WTI year-to-date performance, source: FactSet

Energy markets are going to be "in the driver's seat" for the rest of the year after metals and other commodities led the rally in the first two months of the third quarter, Morse said. Commodities closely linked to China's economy are now ceding the way to the oil market, where the market is tightening after three years of oversupply, he said.

Crude stockpiles in the OECD, a group of mostly developed countries, have recently fallen toward the five-year average as OPEC, Russia and other oil producers cut production to drain a global glut. They stood about 190 million barrels above that level in July, according to the International Energy Agency.

"We're seeing inventories draw," Morse said. "Finally, the market is recognizing that these draws in inventories of products and crude oil combined are for real and they're going to last through the end of the year. Maybe next year is a different story, but this year looks quite positive from now until the end of December."

As for natural gas, Morse said Citigroup would not be surprised to see prices at $3.70 per million British thermal unit by the end of winter. The current price is $2.91 per mmBtu. Natural gas prices rise in the winter as heating demand rises.

Henry Hub natural gas 1-year performance, source: FactSet

After that, it depends on when pipelines are completed to alleviate takeaway constraints in key producing regions like Appalachia's Marcellus Shale and the Permian Basin in western Texas and southeastern New Mexico.

"We don't see much in the way of incremental pipeline, particularly from the northeast, coming into the market until late in 2018, so we think we're in a relatively tight position until then," he said.