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Speculation Up - Prices Up - Rig Count Up - Production Down
During the week ending December 30th, the spot month diesel futures price increased by 4.15 cents per gallon (+2.50%) while the deferred months increased by 3 to 5 cents per gallon making the forward pricing curve higher and relatively unchanged in slope. The one year forward price ended the week at a 10.00 cent premium to the spot price, from a premium of 10.76 cents at the end of the previous week.
The level and slope of the diesel forward pricing curve indicates higher demand expectations and steady inventories with respect to demand. Demand includes speculative demand which increased 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.
During the week ending December 30th, the spot month gasoline futures price increased by 3.89 cents per gallon (+2.39%) while the deferred months increased by 2 to 3 cents per gallon making the forward pricing curve higher and more negatively sloped over the next year. The one year forward price ended the week at a 5.10 cent discount to the spot price, from a discount of 3.85 cents 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. Demand includes speculative demand which was higher on the week.
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 lower which is negative for price. Speculation was higher on the week which is positive for price. US domestic crude production was lower which is positive for price. Domestic production is down 4.74% on a year over year basis. Oil rig count indicating the number of oil wells currently being developed by drilling was higher on the week which is negative for price.
Weekly US petroleum demand decreased by 5.84% during the week ending December 23rd. Domestic demand is down 1.51% vs. one-year ago and demand is currently 1.20% above the five year average.
Domestic production decreased for the second week and is 4.74% below year ago levels. The number of operating oil drilling rigs in the US increase by 2 and stands at 525. This is 209 more than the recent low of 316 and 67.37% lower than the peak of 1609 in October 2014. This is a new eleven-month high rig count. A higher rig count is negative for price. The increasing rig count is causing US production to stabilize and grow as the global rebalancing of supply and demand continues. US domestic production has decreased by 453,000 barrels per day since the beginning of the year and 844,000 barrels per day since the peak of 9.61 million barrels per day in June 2015.
Below is the one-year chart of spot diesel futures prices as of December 30th.
Below is the one-year chart of spot gasoline futures prices as of December 30th.
MARKET FACTORS & COMMENTARY:
: : Inventories decreased by 2.86 million barrels while inventories were expected to decrease by 0.38 million barrels on the week. The five-year average inventory increased by 2.25 million barrels. Inventories decreased vs. the five year average and increased vs. expectations.
: : The Stock market decreased by -1.10% which is negative for economic and petroleum demand expectations and prices.
: : The US Dollar decreasing by -0.78% on the week is positive 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.
SUPPLY & DEMAND:
The charts below show supply and demand history and expectations for November and December. Supply and demand are in the process of re-balancing which is the main cause of steady to higher price levels over the past 6 months.
Below is the one-year chart US stock market prices as of December 30th.
Below is the one-year chart for the US dollar index as of December 30th.
During the week ended December 23rd, total petroleum inventories decreased by 2.86 million barrels vs. a five year average increase of 2.25 million barrels and vs. an expected decrease of 0.38 million barrels. Inventories decreased by 5.11 million barrels vs. the five year average and decreased by 2.48 million barrels vs. expectations. Total inventories stand at 864.8 million barrels, down from 867.7 million barrels at the end of the previous week. The five year average inventory is 712.2 million barrels, down from 709.9 million barrels at the end of the previous week.
Current inventories are 21.44% higher than the five year average, down from +22.23% at the end of the previous week.
Speculation rises to a new 29 month high.
As of December 27th, the net speculative long position in petroleum futures was 391,541,000 barrels, up 15,100,000 barrels (+4.01%) from the previous week. Speculation increased for the sixth week and represents 45.27% of domestic inventories. Speculation is 81.52% above its one year moving average. The corresponding spot month diesel futures price on December 27th was 169.94 cents per gallon, up 3.06 cents from 166.88 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 80.55% correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 64.88% of diesel fuel price movements are explained by changes in level of speculation.
The net speculative long position has been variable over the past year ranging between 63 million and 392 million barrels with an average of about 216 million barrels, which is up about 6 million barrels on the week.
Based on a multiple regression analysis considering the level of the dollar, speculation, and inventory over the past five years as of December 27th, the market price for spot month diesel futures is estimated to be 137.11 versus the actual price of 169.94. This indicates that the market is currently overvalued by 32.83 cents per gallon given the assumptions of the pricing model.
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 and natural gas.