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Prices Lower - Speculation Lower - US Production Down - Inventory Up
During the week ending May 6th, the spot month diesel futures price decreased by 4.87 cents per gallon (-3.51%) while the deferred months decreased by 1 to 4 cent per gallon making the forward pricing curve lower and more positively sloped. The one year forward price ended the week at a 13.13 cent premium to the spot price, from a premium of 11.56 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 higher inventories with respect to demand. Demand includes speculative demand which decreased 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 May 6th, the spot month gasoline futures price decreased by 10.82 cents per gallon (-6.74%) while the deferred months decreased by 1 to 9 cents per gallon making the forward pricing curve lower more positively sloped. The one year forward price ended the week at a 7.08 cent premium to the spot price, from a premium of 2.71 cents 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. Supply includes speculation which was lower on the week.
The US dollar was higher 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 lower on the week which is negative for price. US domestic crude production was lower which is positive for price. Domestic production is down 5.81% on a year over year basis.
Weekly US petroleum demand increased by 2.09% during the week ending April 29th. Domestic demand is up 5.77% vs. one-year ago and demand is currently 9.61% above the five year average.
Domestic production continued its decline this week and is 5.81% below one year ago levels. The number of operating oil drilling rigs in the US continued to fall and stands at 328 which is 4 fewer than the previous week and 79.61% lower than the peak in October 2014. A lower rig count is positive for price. The lower rig count is causing US production to move downward as part of the global rebalancing of supply and demand. It is expected that US crude production will decrease by 325,000 barrels per day during 2016 to around 8.5 million barrels per day. US domestic production has decreased by 394,000 barrels per day since the beginning of the year.
Below is the one-year chart of spot diesel futures prices as of May 6th.
Below is the one-year chart of spot gasoline futures prices as of May 6th.
MARKET FACTORS & COMMENTARY:
: : Inventories increased by 2.06 million barrels while inventories were expected to increase by 0.76 million barrels on the week. The five-year average inventory increased by 0.11 million barrels. Inventories increased vs. the five year average and vs. expectations.
: : Iraqi exports approached record levels in April adding to the global glut of oil. This is negative for price.
: : US oil producers say that they need a "sustained price signal" before they contemplate increasing supply. This may cause supply to and investment in new supply to become too low such that prices will spike at some point as demand might outstrip supply at some point. This is all supportive for price.
: : The fires in Alberta became very large and shuttered roughly 400,000 barrels per day of production that will remain off line for an unknown period. This is supportive of price until production returns to normal levels.
: : Iran has indicated that it is ready to cooperate with Saudi Arabia on freezing production once it reaches its pre-sanction production levels. This indicates that Iran's goal is to ramp up production quickly which is negative for price.
: : Saudi Arabia's oil minister Al-Naimi retired after 20 years being replaced by Deputy Crown Prince Mohammed bin Salmen, the king's influential son. Analysts believe that there will be little change in the short-term in current policy.
: : Stock market decreasing by -0.40% on the week is generally negative for economic and petroleum demand expectations and prices.
: : The US Dollar increasing by +0.87% 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.
The charts below show supply and demand history and expectations in April and May. When supply and demand begin to rebalance, prices will increase from current levels. The May forecast indicates that the market will be faster to balance than was thought in April indicating that prices may increase sooner and to a greater magnitude in the next 18 months.
Below is the one-year chart US stock market prices as of May 6th.
Below is the one-year chart for the US dollar index as of May 6th.
During the week ended April 29th, total petroleum inventories increased by 2.06 million barrels vs. a five year average increase of 0.11 million barrels and vs. an expected increase of 0.76 million barrels. Inventories increased by 1.95 million barrels vs. the five year average and increased by 1.30 million barrels vs. expectations. Total inventories stand at 942.2 million barrels, up from 940.1 million barrels at the end of the previous week. The five year average inventory is 745.3 million barrels, up from 745.2 million barrels at the end of the previous week.
Current inventories are 26.42% higher than the five year average, up from +26.16% at the end of the previous week.
As of May 3rd, the net speculative long position in petroleum futures was 264,255,000 barrels, down 10,333,000 barrels (-3.76%) from the previous week. Speculation decreased for the first time in four weeks and represents 28.04% of domestic inventories. Speculation is 72.50% above its one year moving average. The corresponding spot month diesel futures price on May 3rd was 133.34 cents per gallon, up 0.09 cents from 133.25 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 48.27% correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 23.30% 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 57 million and 279 million barrels with an average of about 153 million barrels, which is unchanged 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 May 3rd, the market price for spot month diesel futures is estimated to be 139.35 versus the actual price of 133.34. This indicates that the market is currently undervalued by 6.00 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.