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Higher Speculation - Economic Optimism
During the week ending January 25th, the spot month heating oil futures price increased by 0.43 cents per gallon (+0.14%) while the deferred months increased by 0 to 2 cents per gallon making the forward pricing curve generally unchanged in level and slope. The one year forward price ended the week at a 4.82 cent (1.58%) discount to the spot price, from a discount of 6.04 cents (1.98%) and the end of the previous week.
The relative lack of change in level and shape of this forward pricing curve indicates little change in demand expectations, supply, and inventory levels with respect to supply and demand. Demand includes speculative demand which increased again on the week and can be volatile. When the forward pricing curve decreases in slope (more negative or less positive), this usually indicates smaller inventories and is generally positive for price. When slope increases, this usually indicates larger inventories and is negative for price.
During the week ending January 25th, the spot month gasoline futures price increased by 7.86 cents per gallon (+2.81%) while the deferred months increased by 1 to 7 cents per gallon making the forward pricing curve higher and more negatively sloped. The one year forward price ended the week at a 26.93 cent (10.33%) discount to the spot price, from a discount of 20.48 cents (7.90%) and the end of the previous week.
The change in level and shape of this forward pricing curve indicates higher demand expectations and lower inventory levels with respect to supply and demand.
The US and global economy have been showing signs of improvement and the economic risks that were present just a month ago have dissipated. Inventories on the week were smaller than expected but still larger than historical averages thus negative for price. The US Dollar was lower supporting price. The stock market was higher which is positive for price. Speculation was up on the week which is supportive of price.
Weekly US petroleum demand increased by 3.85% during the week ending January 18th. Demand is up 0.37% vs. one year ago and remains below the five year average.
The attractiveness of making new hedges decreased since prices were slightly higher and speculation was higher. Spot diesel prices remain near the middle of the price range that we have seen over the past twelve months. As prices move and as time passes, the advisability of hedging will change. As further price opportunities present themselves, hedging will become more attractive. Entering new, longer-term hedges at these levels would involve more competition with speculators for long futures positions and at somewhat unattractive prices. Spot heating oil futures in the $2.80 - $2.90 level will trigger additional hedging.
Below is a one year chart of spot heating oil futures prices, the proxy hedging mechanism for diesel fuel, as of January 25th.
Below is a one year chart of spot gasoline futures prices, the hedging mechanism for gasoline, as of January 25th.
Factors affecting the market on the period were:
During the week ended January 18th, total petroleum inventories increased by 1.58 million barrels vs. a five year average increase of 3.49 million barrels and vs. an expected increase of 3.40 million barrels. Inventories decreased by 1.90 million barrels vs. the five year average. Total inventories stand at 729.3 million barrels, up from 727.7 million barrels at the end of the previous week. The five year average inventory is 699.7 million barrels, up from 696.2 at the end of the previous week.
Current inventories are 4.24% larger than the five year average down from +4.53% at the end of the previous week. Inventories versus the five year average on a percentage basis continue to be near eighteen month highs. This is negative for price and mitigates the effects of more speculation.
As of January 22nd, the net speculative long position in petroleum futures was 311,385,000 barrels up 25,951,000 barrels (+9.09%) from the previous week. The level of speculation increased on the week and represents 42.70% of domestic inventories. Speculation is 16.39% above its one year moving average and is 23.82% below the 52 week high level. Levels have increased above the middle of the range that we have seen over the past two years and have become higher than the one year average. The corresponding spot month heating oil futures price on January 22nd was 306.82 cents per gallon, up 5.69 cents from 301.13 cents per gallon during the previous week.
Heating oil price and size of speculative net long position in petroleum are 83.26% correlated over the past 52 weeks (an increase on the week) indicating that, on a statistical basis over the past year 69.33% of the price movement of heating oil is explained by changes in levels of speculation. This statistical relationship has stabilized and remains high. A linear regression analysis over the past 52 weeks shows that if speculation were zero and the market forces causing speculation evaporated, that the spot month heating oil futures price would be 244.65 cents per gallon or 62.17 cents per gallon less than current prices. The analysis would indicate that about 20.26% of current price is attributable to speculation and its underlying market rationale. The "would be" price was steady on the week.
The net speculative long position has been variable over the past year ranging between 70 million and 410 million barrels with an average of about 268 million barrels, roughly unchanged on the week.
The graph below is three year history of speculative position levels.
Linwood Capital, LLC is an institutional fuel hedging management and consulting firm. Linwood creates and manages customized fuel hedging programs primarily for public clients on a nationwide basis.
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