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Petroleum Market Commentary - February 24, 2014

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Spot Prices Higher - Inventories Higher - Speculation Much Higher

DIESEL:

During the week ending February 21st, the spot month diesel futures price increased by 2.10 cents per gallon (+0.68%) while the deferred months changed by -2 to +2 cents making the forward pricing curve higher for nearby timeframes and lower further forward and more negatively sloped. The one year forward price ended the week at a 17.87 cent (5.77%) discount to the spot price, from a discount of 16.57 cents (5.38%) and the end of the previous week.

The change in level and slope of the diesel forward pricing curve indicates slightly higher demand expectations near-term and slightly lower supplies with respect to demand. Demand includes speculative demand. When the forward pricing curve decreases in slope (more negative or less positive), this usually indicates tighter inventories and is generally positive for price. When slope increases, this usually indicates more plentiful inventories and is negative for price.

Below is a one week chart of the diesel forward pricing curve as of February 21st.

GASOLINE:

During the week ending February 21st, the spot month gasoline futures price increased by 2.80 cents per gallon (+1.00%) while the deferred months increased by 2 to 4 cents per gallon making the forward pricing curve higher and slightly less negatively sloped. The one year forward price ended the week at a 23.74 cent (9.15%) discount to the spot price, from a discount of 24.50 cents (9.57%) and the end of the previous week.

The change in level and shape of this forward pricing curve indicates higher demand expectations and higher inventory levels with respect to supply and demand.

Below is a one week chart of the gasoline forward pricing curve as of February 21st.

ANALYSIS:

The US dollar was higher on the week which is negative for price. Inventories on the week were higher which is negative for price. The stock market, as a proxy for demand expectations, was lower which is negative for price. Speculation was higher on the week which is positive for price. US domestic crude production was higher on the week which is negative for price.

Below are charts of three year crude production and avg. vs. five year demand as of February 14th.


Weekly US petroleum demand increased by 0.91% during the week ending February 14th. Demand is up 2.98% vs. one-year ago and demand is currently 0.01% above the five year average.

The attractiveness of making new hedges decreased on the week as prices were slightly higher. Significantly higher speculation also caused hedging to be less attractive on the week since hedging would involve an increased level of competition with speculators for long positions which is disadvantageous for the long-hedger. As prices move and as time passes, the advisability of hedging will change. As further price opportunities present themselves, hedging will become more attractive.

Below are the one year charts of spot diesel and spot gasoline futures prices as of February 21st.


MARKET FACTORS:

INVENTORIES:

During the week ended February 14th, total petroleum inventories increased by 0.94 million barrels vs. a five year average decrease of 0.76 million barrels and vs. an expected decrease of 1.40 million barrels. Inventories increased by 1.69 million barrels vs. the five year average. Total inventories stand at 708.5 million barrels, up from 707.5 million barrels at the end of the previous week. The five year average inventory is 724.2 million barrels, down from 724.9 million barrels at the end of the previous week.

Current inventories are 2.17% smaller than the five year average up from -2.40% at the end of the previous week. Inventories versus the five year average on a percentage basis are negative for the 7th week. The five year average inventory has grown over the past five years and it has become increasingly difficult for current inventories to surpass the five year average. Current inventories will be closer to the five year average and not as high compared to it. Also, increased production in the U.S. over the past three years diminishes the need for larger inventories since production is closer to consumption and the risk of disruption is lower.

Below is a one year chart of average petroleum inventory as of February 14th.

SPECULATION:

As of February 18th, the net speculative long position in petroleum futures was 406,801,000 barrels up 46,101,000 barrels (+12.78%) from the previous week. Speculation increased for the fourth week in a row to near all-time highs and represents 57.42% of domestic inventories. Speculation is 33.29% above its one year moving average and is 5.15% below the 52-week high set on July 23rd. The corresponding spot month heating oil futures price on February 18th was 310.17 cents per gallon, up 7.36 cents from 302.81 cents per gallon during the previous week.

Diesel fuel price and size of speculative net long position in petroleum are 78.14% correlated over the past 52 weeks (an increase on the week) indicating that, on a statistical basis over the past year 61.07% of the price movement of diesel fuel is explained by changes in levels of speculation. 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 diesel futures price would be 263.77 cents per gallon or 46.41 cents per gallon less than current prices. The analysis would indicate that about 14.96% of current price is attributable to speculation and its underlying market rationale. The "would be" price was up by about 0.75 cents on the week.

The net speculative long position has been variable over the past year ranging between 181 million and 429 million barrels with an average of about 305 million barrels, which up about 1 million barrels on the week.

The graph below is three year history of speculative position levels as of February 18th.

Linwood Capital, LLC is an institutional fuel hedging management, advisory, and consulting firm. Linwood creates and manages customized fuel hedging programs for institutional consumers of petroleum, natural gas, and electricity on a nationwide basis.