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Petroleum Market Commentary - September 16, 2013

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Prices Lower - Inventory Higher - Speculation Lower

DIESEL:

During the week ending September 13th, the spot month diesel futures price decreased by 5.00 cents per gallon (-1.58%) while the deferred months decreased by 3 to 6 cents per gallon making the forward pricing curve lower and less negatively sloped. The one year forward price ended the week at a 16.8 cent (5.40%) discount to the spot price, from a discount of 17.46cents (5.52%) 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 decreased 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 September 13th, the spot month gasoline futures price decreased by 8.41 cents per gallon (-2.95%) while the deferred months were lower by 4 to 9 cents per gallon. This made the forward pricing curve lower and less negatively sloped. The one year forward price ended the week at a 19.18 cent (7.44%) discount to the spot price, from a discount of 22.98 cents (8.76%) 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 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 higher which is positive for price. Speculation was lower on the week which is negative for price. US domestic crude production continues to be strong and increased on the week to a new 24 year high level which is negative for price. Geopolitical risk, especially Syria, has eased yet continues to be a background factor that is supportive of price.


Weekly US petroleum demand decreased by 2.91% during the week ending September 6th. Demand is up 1.68% vs. one year ago and demand is currently 0.64% below the five year average.

The attractiveness of making new hedges increased on the week with lower prices and lower speculation levels. Since speculation was lower on the week, making new hedges would involve less competition with speculators for long futures positions. Prices and levels of speculation, while lower on the week, remain relatively high. The environment for making new hedges continues to be difficult. As prices move and as time passes, the advisability of hedging will change. As price opportunities present themselves, hedging will become more attractive.

Below is a one year chart of spot diesel futures prices as of September 13th.

Below is a one year chart of spot gasoline futures prices, the hedging mechanism for gasoline, as of September 13th.

Factors affecting the market on the period were:

During the week ended September 6th, total petroleum inventories increased by 4.03 million barrels vs. a five year average decrease of 3.95 million barrels and vs. an expected decrease of 2.20 million barrels. Inventories increased by 7.98 million barrels vs. the five year average. Total inventories stand at 709.8 million barrels, up from 705.8 million barrels at the end of the previous week. The five year average inventory is 696.4 million barrels, down from 700.4 million barrels at the end of the previous week.

Current inventories are 1.92% larger than the five year average up from +0.77% 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 September 10th, the net speculative long position in petroleum futures was 383,979,000 barrels down 27,338,000 barrels (-6.65%) from the previous week. The level of speculation decreased for the second week in a row. This level of speculation represents 54.10% of domestic inventories. Speculation is 34.53% above its one year moving average and is 10.48% below the 52-week high set on July 23rd. The corresponding spot month heating oil futures price on September 10th was 306.68 cents per gallon, down 8.15 cents from 314.83 cents per gallon during the previous week.

Diesel fuel price and size of speculative net long position in petroleum are 53.15% correlated over the past 52 weeks (an increase on the week) indicating that, on a statistical basis over the past year 28.25% of the price movement of diesel fuel is explained by changes in levels of speculation. This statistical relationship has stabilized and has increased in recent weeks in an environment of high speculation which tends to increase correlation. Other fundamental factors such as higher domestic production remain as important price drivers in the current environment. 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 277.56 cents per gallon or 29.11 cents per gallon less than current prices. The analysis would indicate that about 9.49% of current price is attributable to speculation and its underlying market rationale. The "would be" price was up by less than 1 cent 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 285 million barrels, which was an increase of about 1 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.