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Petroleum Market Commentary - June 24, 2013

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Prices Lower - Inventory Steady - Speculation Sharply Higher

DIESEL:

During the week ending June 21st, the spot month heating oil futures price decreased by 11.81 cents per gallon (-3.99%) while the deferred months decreased by 9 to 12 cents per gallon making the forward pricing curve lower and less negatively sloped. The one year forward price ended the week at a 4.35 cent (1.53%) discount to the spot price, from a discount of 4.05 cents (1.37%) and the end of the previous week.

The change in level and slope of this forward pricing curve indicates lower demand expectations and higher supplies with respect to demand. Demand includes speculative demand which increased on the week and can be volatile. 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.

GASOLINE:

During the week ending June 21st, the spot month gasoline futures price decreased by 13.50 cents per gallon (+4.66%) while the deferred months decreased by 11to 14 cents per gallon making the forward pricing curve lower and less negatively sloped. The one year forward price ended the week at an 10.56 cent (3.98%) discount to the spot price, from a discount of 11.08 cents (3.98%) 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.

ANALYSIS:

The US dollar was higher on the week which is negative for price. Inventories on the week were steady and remain above historical averages. This 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 of price. US domestic crude production continues to be strong and decreased on the week which is positive for price. Geopolitical risk continues to be a background factor that is supportive of price.


Weekly US petroleum demand increased by 2.77% during the week ending June 14th. Demand is down by 1.53% vs. one year ago and demand is currently 4.79% below the five year average.

The attractiveness of making new hedges increased on the week given the lower price environment. Speculation was higher on the week indicating that new hedges would require more competition with market speculation. As prices move and as time passes, the advisability of hedging will change. As further price opportunities present themselves, hedging will become more attractive. Diesel futures prices in the $2.80 - $2.90 have made hedging more advantageous depending on the goals of hedger.

Below is a one year chart of spot diesel futures prices as of June 21st.

Below is a one year chart of spot gasoline futures prices, the hedging mechanism for gasoline, as of June 21st.

Factors affecting the market on the period were:

During the week ended June 14th, total petroleum inventories increased by 0.01 million barrels vs. a five year average increase of 1.58 million barrels and vs. an expected increase of 0.50 million barrels. Inventories decreased by 1.55 million barrels vs. the five year average. Total inventories stand at 737.5 million barrels, up from 737.5 million barrels at the end of the previous week. The five year average inventory is 702.5 million barrels, up from 701.0 million barrels at the end of the previous week.

Current inventories are 4.98% larger than the five year average down from +5.21% at the end of the previous week. Inventories versus the five year average on a percentage basis remain positive. This helps to mitigate the effects of supply disruption and decreases price volatility.

As of June 18th, the net speculative long position in petroleum futures was 295,831,000 barrels up 51,219,000 barrels (+20.94%) from the previous week. The level of speculation increased for the second week and represents 40.11% of domestic inventories. Speculation is 17.27% above its one year moving average and is 17.79% below the 52 week high level. Speculative levels are near the upper quartile of the past year's range. The corresponding spot month heating oil futures price on June 18th was 296.17 cents per gallon, up 10.42 cents from 285.75 cents per gallon during the previous week.

Diesel fuel price and size of speculative net long position in petroleum are 74.87% correlated over the past 52 weeks (a decrease on the week) indicating that, on a statistical basis over the past year 56.06% of the price movement of diesel fuel is explained by changes in levels of speculation. This statistical relationship continues to become weaker and remains significant. 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 243.35 cents per gallon or 52.82 cents per gallon less than current prices. The analysis would indicate that about 17.83% of current price is attributable to speculation and its underlying market rationale. The "would be" price was up about 3.0 cents on the week.

The net speculative long position has been variable over the past year ranging between 171 million and 360 million barrels with an average of about 252 million barrels, which was an increase of about 2 million barrels 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.