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11 Year Low Prices - Speculation Up - OPEC Record Production
During the week ending December 31st,the spot month diesel futures price decreased by 0.02 cents per gallon (-0.02%) while the deferred months decreased by 1 to 3 cents per gallon making the forward pricing curve lower and less positively sloped. The one year forward price ended the week at a 26.95 cent premium to the spot price, from a premium of 29.48 cents at the end of the previous week.
The change in level and slope of the diesel forward pricing curve indicates lower demand expectations and lower supplies with respect to demand. Demand includes speculative demand which was lower 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 31st, the spot month gasoline futures price increased by 0.28 cents per gallon (+0.22%) while the deferred months declined by 0 to 2 cents per gallon making the forward pricing curve mostly lower and less positively sloped. The one year forward price ended the week at a 1.22 cent discount to the spot price, from a discount of 0.35 cents and the end of the previous week.
The change in level and shape of this forward pricing curve indicates steady to lower demand expectations and lower inventory levels with respect to supply and demand.
The US dollar increased on the week which is negative for price. Inventories on the week were higher and higher than expected which 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 for price. US domestic crude production was higher which is negative for price. Domestic production is up 0.88% year over year up from +0.57% year over year during the previous week.
Weekly US petroleum demand increased by 3.50% during the week ending December 24th. Domestic demand is down 0.15% vs. one-year ago and demand is currently 4.06% above the five year average.
Domestic production increased on the week. The number of operating oil drilling rigs in the US decreased on the week to 12 above the low set on December 11th which is the lowest level since April 2010. A lower rig count is positive for price.
OPEC production is up 2.39% from November to December (768,000 barrels per day) and is up 8.11% year over year at a new all-time high level or production. The imbalance in supply and demand is expected to last longer that was first thought and into 2016 and beyond. This will keep prices low for the short to medium-term. As global demand grows to meet supply and the market becomes balanced, prices will increase. If demand does not grow as quickly as expected, prices will fall to curtail supply.
Below is the one-year chart of spot diesel futures prices as of December 31st.
Below is the one-year chart of spot gasoline futures prices as of December 31st.
: : Inventories increased by 5.35 million barrels while inventories were expected to decrease by 0.92 million barrels on the week. The five-year average inventory increased by 1.23 million barrels. Inventories increased vs. the five year average and vs. expectations. The global market continues to be oversupplied by 1.5 to 2.0 million barrels per day which, along with large global inventories, will keep downward pressure on prices. This is expected to persist through 2016.
: : Prices were relatively stable on the week at fresh 11-year lows. Supply has to go away but the question is from where? OPEC production increased significantly for December over November and so the market's low price is putting additional pressure on producers to stop or slow production. Inventories continue to balloon which exacerbates the problem and will prolong it. Low prices will cause pain to producers and may drive some out. We have yet to see any results of the nearly 2/3rds drop in rig count in the US. Prices will remain low for the time being.
: : Stock market decreasing by -0.83% on the week is generally negative for economic and petroleum demand expectations and prices.
: : The US Dollar increasing by 0.85% is negative 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.
Below is the one-year chart US stock market prices as of December 31st.
Below is the one-year chart for the US dollar index as of December 31st.
During the week ended December 24th, total petroleum inventories increased by 5.34 million barrels vs. a five year average increase of 1.23 million barrels and vs. an expected decrease of 0.92 million barrels. Inventories increased by 4.12 million barrels vs. the five year average and increased by 6.27 million barrels vs. expectations. Total inventories stand at 861.9 million barrels, up from 856.6 million barrels at the end of the previous week. The five year average inventory is 711.8 million barrels, up from 710.6 million barrels at the end of the previous week.
Current inventories are 21.09% higher than the five year average, up from +20.54 at the end of the previous week.
As of December 29th, the net speculative long position in petroleum futures was 93,849,000 barrels, up 24,713,000 barrels (+35.75%) from the previous week. Speculation increased for the first time in two weeks and represents 8.07% of domestic inventories. Speculation is 60.17% below its one year moving average. The corresponding spot month diesel futures price on December 29th was 110.07 cents per gallon, down 0.02 cents from 110.09 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 85.33 correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 72.81% of diesel fuel price movements are explained by changes in level of speculation. With the current over supply situation and the expectation that this will persist, long-side speculation will remain relatively low.
The net speculative long position has been variable over the past year ranging between 57 million and 285 million barrels with an average of about 174 million barrels, which is down about 2 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, the market price for spot month diesel futures is estimated to be 135.53 versus the actual price of 110.07. This indicates that the market is currently undervalued by 25.46 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.