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Petroleum Market Commentary - November 25, 2013

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Prices Higher - Inventories Lower - Speculation Higher - Demand Higher

DIESEL:

During the week ending November 22nd, the spot month diesel futures price increased by 10.24 cents per gallon (+3.48%) while the deferred months changed from down 1 cent to up 10 cents per gallon making the forward pricing curve higher and more negatively sloped. The one year forward price ended the week at a 9.43 cent (3.10%) discount to the spot price, from a discount of 3.12 cents (1.06%) and the end of the previous week.

The change in level and slope of this forward pricing curve indicates higher demand expectations and lower 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.

GASOLINE:

During the week ending November 22nd, the spot month gasoline futures price increased by 6.84 cents per gallon (+2.57%) while the deferred months increased by 4 to 7 cents per gallon making the forward pricing curve higher and more negatively sloped. The one year forward price ended the week at an 14.13 cent (5.47%) discount to the spot price, from a discount of 11.71cents (4.61%) 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.

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 higher which is positive for price. Speculation was higher on the week which is positive for price. US domestic crude production continues to be strong and is just off of the 24-year high level set the previous week. This remains negative for price.


Weekly US petroleum demand increased by 0.69% during the week ending November 15th. Demand is up 7.44% vs. one year ago and demand is currently 7.43% above the five year average.

The attractiveness of making new hedges decreased on the week as prices increased in the nearby time frames where hedging longer-term was relatively unchanged especially for diesel fuel. Higher speculation levels on the week present the long-side hedger with a relatively unattractive environment in which to place new hedges. 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 is a one year chart of spot diesel futures prices as of November 22nd.

Below is a one year chart of spot gasoline futures prices, the hedging mechanism for gasoline, as of November 22nd.

Factors affecting the market on the period were:

During the week ended November 15th, total petroleum inventories decreased by 4.77 million barrels vs. a five year average decrease of 0.73 million barrels and vs. an expected decrease of 1.95 million barrels. Inventories decreased by 4.04 million barrels vs. the five year average. Total inventories stand at 709.9 million barrels, up from 714.6 million barrels at the end of the previous week. The five year average inventory is 688.3 million barrels, down from 689.0 million barrels at the end of the previous week.

Current inventories are 3.13% larger than the five year average down from +3.72% 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 November 19th, the net speculative long position in petroleum futures was 267,883,000 barrels up 21,262,000 barrels (+8.62%) from the previous week. Speculation increased for the first time in four weeks and represents 37.74% of domestic inventories. Speculation is 8.74% below its one year moving average and is 37.54% below the 52-week high set on July 23rd. The corresponding spot month heating oil futures price on November 19th was 290.58 cents per gallon, up 5.26 cents from 285.32 cents per gallon during the previous week.

Diesel fuel price and size of speculative net long position in petroleum are 66.46% correlated over the past 52 weeks (an increase on the week) indicating that, on a statistical basis over the past year 44.17% of the price movement of diesel fuel is explained by changes in levels of speculation. This statistical relationship has strengthened in recent weeks in an environment of relatively 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 269.22 cents per gallon or 21.36 cents per gallon less than current prices. The analysis would indicate that about 7.35% of current price is attributable to speculation and its underlying market rationale. The "would be" price was down by about 2 cents 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 294 million barrels, which was up 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.