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Petroleum Market Commentary - May 19, 2014

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Prices Higher - Inventory Lower - Speculation Lower

DIESEL:

During the week ending May 16th, the spot month diesel futures price increased by 4.68 cents per gallon (+1.61%) while the deferred months increased by 3 to 5 cents making the forward pricing curve higher and more negatively sloped. The one year forward price ended the week at an 8.15 cent (2.76%) discount to the spot price, from a discount of 7.31 cents (2.51%) and the end of the previous week.

The change in level and slope of the diesel forward pricing curve indicates higher demand expectations and lower supplies with respect to demand. Demand includes speculative demand which was up slightly on the week. 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 May 16th.

GASOLINE:

During the week ending May 16th, the spot month gasoline futures price increased by 7.75 cents per gallon (+2.68%) while the deferred months increased by 3 to 8 cents per gallon making the forward pricing curve higher and more negatively sloped. The one year forward price ended the week at a 21.94 cent (7.97%) discount to the spot price, from a discount of 18.20 cents (6.71%) 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.

Below is a one week chart of the gasoline forward pricing curve as of May 16th.

ANALYSIS:

The US dollar was higher on the week which is negative for price. Inventories on the week were lower which is positive 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 to a new 27.5 year high which is negative for price.

Below are charts of three year crude production and avg. vs. five year demand as of May 9th.


Weekly US petroleum demand increased by 4.82% during the week ending May 9th. Demand is up 0.99% vs. one-year ago and demand is currently 0.48% above the five year average.

The attractiveness of making new hedges decreased on the week as prices were higher and speculation levels were higher. Higher speculation levels made new hedging relatively unattractive since new hedging should seek to involve a minimum amount of competition with speculators for long futures positions. 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 May 16th.


MARKET FACTORS:

: :  Inventories decreasing by 0.95 million barrels while inventories were expected to decrease by 1.50 million barrels on the week. The five year average inventory decreased by 1.06 million barrels. Inventories increased vs. the five year average and vs. expectations.

: :  Ukraine remains a factor in the market as any escalation of the tense situation there would threaten or actually disrupt the usual flow of petroleum. This would have an effect on supply and would cause a spike in speculation and price.

: :  US economic factors including:

: :  Global economic factors including:

: :  The US Stock market decreasing by 0.03% on the week which is negative for economic and petroleum demand expectations and prices.

: :  The US Dollar increasing by 0.18% on the week which is negative 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 May 9th, total petroleum inventories decreased by 0.95 million barrels vs. a five year average decrease of 1.06 million barrels and vs. an expected decrease of 1.50 million barrels. Inventories increased by 0.11 million barrels vs. the five year average. Total inventories stand at 723.8 million barrels, down from 724.8 million barrels at the end of the previous week. The five year average inventory is 723.1 million barrels, down from 724.2 million barrels at the end of the previous week.

Current inventories are 0.10% larger than the five year average up from +0.08% at the end of the previous week. For the third week, inventories versus the five year average on a percentage basis are positive for the first time since December 27th which shows that inventories continue to be healthy and have replenished themselves after the extraordinary winter heating season. Increased production in the U.S. over the past three years diminishes the need for larger inventories since production is geographically closer to consumption and the risk of disruption and disruption due to geopolitical events is lower. In this case, "risk adjusted" inventory is higher.

Below is a one year chart of average petroleum inventory as of May 9th.

SPECULATION:

As of May 13th, the net speculative long position in petroleum futures was 396,892,000 barrels up 2,533,000 barrels (+0.64%) from the previous week. Speculation increased on the week and represents 54.83% of domestic inventories. Speculation is 15.80% above its one year moving average and is 11.54% below the 52-week high set last week. The corresponding spot month diesel futures price on May 13th was 294.40 cents per gallon, up 5.63 cents from 288.77 cents per gallon during the previous week.

Diesel fuel price and size of speculative net long position in petroleum are 49.52% correlated over the past 52 weeks (a decrease on the week) indicating that, on a statistical basis over the past year 24.52% 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 278.74 cents per gallon or 15.66 cents per gallon less than current prices. The analysis would indicate that about 5.32% of current price is attributable to speculation and its underlying market rationale. The "would be" price was up by about 1.5 cents on the week.

The net speculative long position has been variable over the past year ranging between 225 million and 449 million barrels with an average of about 343 million barrels, which up about 4 million barrels on the week.

The graph below is three year history of speculative position levels as of May 13th.

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.