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Petroleum Market Commentary - March 17, 2014

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Prices Lower - China Slowing - Speculation Lower - Production Higher

DIESEL:

During the week ending March 14th, the spot month diesel futures price decreased by 6.90 cents per gallon (-2.29%) while the deferred months changed by -5 to +1 cents making the forward pricing curve mostly lower and less negatively sloped. The one year forward price ended the week at an 8.14 cent (2.77%) discount to the spot price, from a discount of 13.82 cents (4.59%) and the end of the previous week.

The change in level and slope of the diesel forward pricing curve indicates lower demand expectations and higher 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 March 14th.

GASOLINE:

During the week ending March 14th, the spot month gasoline futures price decreased by 1.41 cents per gallon (-0.47%) while the deferred months decreased by 0 to 2 cents per gallon making the forward pricing curve lower and less negatively sloped. The one year forward price ended the week at a 22.02 cent (8.04%) discount to the spot price, from a discount of 22.63 cents (8.24%) and the end of the previous week.

The change in level and shape of this forward pricing curve indicates lower 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 March 14th.

ANALYSIS:

The US dollar was lower on the week which is positive 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 lower on the week which is negative for price. US domestic crude production was higher on the week at a new 25+ year high which is negative for price.

Below are charts of three year crude production and avg. vs. five year demand as of March 7th.


Weekly US petroleum demand increased by 4.02% during the week ending March 7th. Demand is up 0.44% vs. one-year ago and demand is currently 2.62% below the five year average.

The attractiveness of making new hedges increased on the week as prices were lower and speculation was lower as well. Lower speculation causes hedging to be more attractive since it would involve less competition with speculators for long positions which is advantageous 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 March 14th.


MARKET FACTORS:

: :  Inventories increasing by 0.42 million barrels while inventories were expected to decrease by 0.40 million barrels on the week. The five year average inventory decreased by 1.44 million barrels. Inventories increased vs. the five year average and vs. expectations.

: :  Fears that China's economy is slowing and that the growth in China's petroleum consumption may slow. This is negative for global petroleum demand expectations and price. These fears are caused by:

: :  The situation between Ukraine and Russia causes risk that some part of global petroleum supplies may be disrupted in some way which would cause immediate supplies to shrink which would be supportive of price. Of course, simply the risk of such a disruption causes long-side speculation in the market which is supportive of price.

: :  The Energy Information Agency raised its global petroleum demand forecast for 2014 by 95,000 barrels per day from last month's forecast to a record high 92.7 million barrels per day. Higher demand expectations are supportive of price.

: :  US February retail sales and weekly unemployment claims were both better than expected showing continued signs of strength in the US economy which is positive for petroleum demand expectations and supportive of petroleum prices.

: :  The US Stock market decreasing by 1.97% on the week which is negative for economic and petroleum demand expectations and prices.

: :  The US Dollar decreasing by 0.34 on the week which is positive for petroleum price. Commodities are used as a hedge against inflation and against a falling dollar. A stronger dollar reduces the relative demand for commodities for this purpose and prices decrease accordingly. Conversely, a weaker dollar increases relative demand for commodities and prices increase.

INVENTORIES:

During the week ended March 7th, total petroleum inventories increased by 0.42 million barrels vs. a five year average decrease of 1.44 million barrels and vs. an expected decrease of 0.40 million barrels. Inventories increased by 1.85 million barrels vs. the five year average. Total inventories stand at 707.7 million barrels, up from 707.3 million barrels at the end of the previous week. The five year average inventory is 720.3 million barrels, down from 721.7 million barrels at the end of the previous week.

Current inventories are 1.74% smaller than the five year average up from -2.00% at the end of the previous week. Inventories versus the five year average on a percentage basis are negative for the 10th 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 March 7th.

SPECULATION:

As of March 11th, the net speculative long position in petroleum futures was 419,298,000 barrels down 28,252,000 barrels (-6.31%) from the previous week. Speculation decreased for the first time in seven weeks and represents 59.25% of domestic inventories. Speculation is 33.34% above its one year moving average and is 6.31% below the 52-week high set on March 4th. The corresponding spot month heating oil futures price on March 11th was 296.10 cents per gallon, down 7.97 cents from 304.07 cents per gallon during the previous week.

Diesel fuel price and size of speculative net long position in petroleum are 75.94% correlated over the past 52 weeks (a decrease on the week) indicating that, on a statistical basis over the past year 57.67% 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 266.65 cents per gallon or 29.45 cents per gallon less than current prices. The analysis would indicate that about 9.94% of current price is attributable to speculation and its underlying market rationale. The "would be" price was up by about 1.50 cents on the week.

The net speculative long position has been variable over the past year ranging between 203 million and 448 million barrels with an average of about 314 million barrels, which up about 3 million barrels on the week.

The graph below is three year history of speculative position levels as of March 11th.

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.