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Prices Lower - Inventory Lower - Speculation Higher
During the week ending May 24th, the spot month heating oil futures price decreased by 8.01 cents per gallon (-2.73%) while the deferred months decreased by 4 to 8 cents per gallon making the forward pricing curve lower and less slightly positively sloped in the first year. The one year forward price ended the week at a 0.75 cent (0.26%) premium to the spot price, from a discount of 1.66 cents (0.57%) and the end of the previous week.
The change in level and slope of this forward pricing curve indicates lower demand expectations and higher supplies with respect to demand. Demand includes speculative demand which increased on the week and can be volatile. 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 24th, the spot month gasoline futures price decreased by 6.79 cents per gallon (-2.34%) while the deferred months decreased by 3 to 6 cents per gallon making the forward pricing curve lower and less negatively sloped. The one year forward price ended the week at a 9.49 cent (3.46%) discount to the spot price, from a discount of 12.54 cents (4.51%) 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.
The US dollar was lower on the week which is positive for price. Inventories on the week were higher than expectations and remain above historical averages. This 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 of price. US domestic crude production continues to be strong and decreased on the week which is positive for price. Geopolitical risk continues to be a background factor that is supportive of price.
Weekly US petroleum demand increased by 1.78% during the week ending May 17th. Demand is down by 0.59% vs. one year ago and demand is currently 3.08% below the five year average.
The attractiveness of making new hedges increased slightly on the week given the lower price environment. Speculation was higher on the week indicating that new hedges will require increased competition with market speculation. As prices move and as time passes, the advisability of hedging will change. As further price opportunities present themselves, hedging will become more attractive. Entering new, longer-term hedges at these levels would involve slightly higher levels of competition with speculators for long futures positions. Diesel futures prices in the $2.80 - $2.90 have made hedging more advantageous depending on the goals of hedger.
Below is a one year chart of spot diesel futures prices as of May 24th.
Below is a one year chart of spot gasoline futures prices, the hedging mechanism for gasoline, as of May 24th.
Factors affecting the market on the period were:
During the week ended May 17th, total petroleum inventories increased by 1.63 million barrels vs. a five year average decrease of 1.88 million barrels and vs. an expected decrease of 0.30 million barrels. Inventories increased by 3.50 million barrels vs. the five year average. Total inventories stand at 734.0 million barrels, up from 732.4 million barrels at the end of the previous week. The five year average inventory is 703.3 million barrels, down from 705.2 million barrels at the end of the previous week.
Current inventories are 4.37% larger than the five year average up from +3.86% 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 May 21st, the net speculative long position in petroleum futures was 259,783,000 barrels up 31,399,000 barrels (+13.75%) from the previous week. The level of speculation increased for the third week and represents 35.39% of domestic inventories. Speculation is 4.87% above its one year moving average and is 27.80% below the 52 week high level. Speculative levels are just above the average of the past year's range. The corresponding spot month heating oil futures price on May 21st was 292.90 cents per gallon, up 5.60 cents from 287.30 cents per gallon during the previous week.
Heating oil price and size of speculative net long position in petroleum are 78.31% correlated over the past 52 weeks (a decrease on the week) indicating that, on a statistical basis over the past year 61.33% of the price movement of heating oil is explained by changes in levels of speculation. This statistical relationship has become weaker over the past several months but remains significant. 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 heating oil futures price would be 233.36 cents per gallon or 59.53 cents per gallon less than current prices. The analysis would indicate that about 20.33% of current price is attributable to speculation and its underlying market rationale. The "would be" price was virtually unchanged on the week.
The net speculative long position has been variable over the past year ranging between 171 million and 360 million barrels with an average of about 248 million barrels, which was an increase of about 1 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.