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OPEC Cuts Supply - Dollar Lower - Speculation Lower - Production Steady - Stock Market Higher - Inventory Surges
During the week ending January 4th, the spot month diesel futures price increased by 10.88 cents per gallon (+6.55%) while the deferred months increased by 6 to 11cents per gallon making the forward pricing curve higher and less positively sloped. The one year forward price ended the week at a 4.34 cent premium to the spot price, from a premium of 6.01 cents at the end of the previous week.
The level and slope of the diesel forward pricing curve indicates higher demand expectations and lower inventories with respect to demand. Demand also includes speculation which was not known because of the government shutdown. 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 January 4th, the spot month gasoline futures price increased by 4.64 cents per gallon (+3.57%) while the deferred months increased by 5 to 9 cents per gallon making the forward pricing curve higher and more positively sloped. The one year forward price ended the week at a 6.51 cent premium to the spot price, from a premium of 0.27 cents and the end of the previous week.
The change in level and shape of this forward pricing curve indicates higher current demand expectations and higher inventory levels with respect to supply and demand. Demand also includes speculation which was unknown due to the government shutdown.
Weekly US petroleum demand decreased by 8.12% during the week ending December 28th. Domestic demand is up by 1.58% vs. one-year ago and demand is currently 7.42% above the five year average.
Domestic production remained at its all-time high level on the week and is 19.61% above year ago levels. The number of operating oil drilling rigs in the US decreased from 885 to 877 on the week. Currently, this is 561 more than the low of 316 rigs in 2016 and 45.49% lower than the peak of 1609 in October 2014. This high rig count is causing US production to generally grow and is a factor in buffering supply disruptions in other parts of the world. US domestic production has increased by 3,272,000 barrels per day (+38.82%) since the low on July 1, 2016.
Below is the one-year chart of spot diesel futures prices as of January 4th.
Below is the one-year chart of spot gasoline futures prices as of January 4th.
MARKET FACTORS & COMMENTARY:
: : Petroleum inventories increased on the week by 16.43 million barrels while inventories were expected to increase by 0.16 million barrels on the week. The five-year average inventory increased by 10.72 million barrels. Inventories increased vs. the five year average and vs. expectations.
: : OPEC and friends agree to cut production by 1.2 million barrels per day in order to avoid a supply glut and support price.
: : Prices during the week were also reacting to indicators in China pointing toward slower economic growth there. Slower Chinese growth would create lower global petroleum demand growth which is negative for price.
: : The Stock market increased by +1.84% which is positive for general economic activity and is positive for petroleum prices and petroleum demand expectations.
: : The US Dollar decreased by -0.23% on the week which 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.
OPEC Production Five Year History – Down 530,000 barrels per day in December in response to lower prices and fears of oversupply. Most of this decrease came from Saudi Arabia (420 kbbl/day) as they had raised production earlier in the year responding to the possibility of a supply shortage due to the Iranian sanctions that turn out to not be consequential.
SUPPLY & DEMAND:
The chart below shows supply and demand history and expectations as of December 2018. The chart shows the expectation of a surplus through the first half of 2019. This expectation is what has caused prices to decrease. The second half of 2019 is forecasted to be balanced between supply and demand which will be supportive of price moving forward.
Below is the one-year chart US stock market prices as of January 4th.
Below is the one-year chart for the US dollar index as of January 4th.
During the week ended December 28th, total petroleum inventories increased by 16.43 million barrels vs. a five year average increase of 10.72 million barrels and vs. an expected increase of 0.16 million barrels. Inventories increased by 5.71 million barrels vs. the five year average and increased by 16.26 million barrels vs. expectations. Total inventories stand at 810.85 million barrels, up from 794.4 million barrels at the end of the previous week. The five year average inventory is 783.3 million barrels, up from 772.6 million barrels at the end of the previous week.
Current inventories are +3.51% versus the five year average, up from +2.82% at the end of the previous week.
Due to government shutdown, the last reported speculation position was Friday December 21st.
As of 12/21/18, speculation drops for the 11th week in a row to an 18-month low.
As of December 18th, the net speculative long position in petroleum futures was 155,905,000 barrels, down 22,264,000 barrels (-12.50%) from the previous week. Speculation decreased for the eleventh week and represents 19.70% of domestic inventories. Speculation is 68.65% below its one year moving average. The corresponding spot month diesel futures price on December 18th was 175.39 cents per gallon, down 9.32 cents from 184.71 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 12.24% correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 1.50% of diesel fuel price movements are explained by changes in level of speculation. One-year correlation has increased in the past weeks.
The net speculative long position has been variable over the past year ranging between 155 million and 703 million barrels with an average of about 497 million barrels, which is down 7 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 January 1st, the market price for spot month diesel futures is estimated to be 155.57 versus the actual price of 168.08. This indicates that the market is currently overvalued by 12.51 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.