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Petroleum Market Commentary - September 23, 2013

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Prices Lower - Inventory Lower - Speculation Lower

DIESEL:

During the week ending September 20th, the spot month diesel futures price decreased by 10.95 cents per gallon (-3.52%) while the deferred months decreased by 2 to 11cents per gallon making the forward pricing curve lower and less negatively sloped. The one year forward price ended the week at a 9.98 cent (3.32%) discount to the spot price, from a discount of 16.80 cents (5.40%) 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 20th, the spot month gasoline futures price decreased by 8.54 cents per gallon (-3.08%) while the deferred months were lower by 4 to 10 cents per gallon. This made the forward pricing curve lower and less negatively sloped. The one year forward price ended the week at a 15.82 cent (6.26%) discount to the spot price, from a discount of 19.18 cents (7.44%) 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 lower which is positive 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 continues to be a background factor that is supportive of price while the immediate risk of supply disruption has abated.


Weekly US petroleum demand increased by 7.95% during the week ending September 13th. Demand is up 2.89% vs. one year ago and demand is currently 0.68% above the five year average.

The attractiveness of making new hedges increased on the week with lower prices and lower speculation. Since speculation was lower on the week, making new hedges would involve less competition with speculators for long futures positions. 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 20th.

Below is a one year chart of spot gasoline futures prices, the hedging mechanism for gasoline, as of September 20th.

Factors affecting the market on the period were:

During the week ended September 13th, total petroleum inventories decreased by 7.07 million barrels vs. a five year average increase of 1.11 million barrels and vs. an expected decrease of 0.50 million barrels. Inventories decreased by 8.18 million barrels vs. the five year average. Total inventories stand at 702.7 million barrels, down from 709.8 million barrels at the end of the previous week. The five year average inventory is 697.5 million barrels, up from 696.4 million barrels at the end of the previous week.

Current inventories are 0.75% larger than the five year average down from +1.92% 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 17th, the net speculative long position in petroleum futures was 358,511,000 barrels down 25,468,000 barrels (-6.63%) from the previous week. The level of speculation decreased for the third week in a row. This level of speculation represents 51.02% of domestic inventories. Speculation is 25.26% above its one year moving average and is 16.41% below the 52-week high set on July 23rd. The corresponding spot month heating oil futures price on September 17th was 299.83 cents per gallon, down 6.85 cents from 306.68 cents per gallon during the previous week.

Diesel fuel price and size of speculative net long position in petroleum are 52.00% correlated over the past 52 weeks (a decrease on the week) indicating that, on a statistical basis over the past year 27.04% 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 278.23 cents per gallon or 21.60 cents per gallon less than current prices. The analysis would indicate that about 7.20% of current price is attributable to speculation and its underlying market rationale. The "would be" price was up about 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 286 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.