Prices Down - Rig Count Up - Production Up - Speculation Plummets
During the week ending June 23rd, the spot month diesel futures price decreased by 5.53 cents per gallon (-3.88%) while the deferred months decreased by 2 to 6 cents per gallon making the forward pricing curve lower and more positively sloped. The one year forward price ended the week at an 8.28 cent premium to the spot price, from a premium of 7.42 cents at the end of the previous week.
The 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 June 23rd, the spot month gasoline futures price decreased by 2.07 cents per gallon (-1.42%) while the deferred months decreased by 2 to 4 cents per gallon making the forward pricing curve lower and generally unchanged in slope. The one year forward price ended the week at a 6.53 cent premium to the spot price, from a premium of 8.08 cents and the end of the previous week.
The change in level and shape of this forward pricing curve indicates lower demand expectations and steady inventory levels with respect to supply and demand. Demand includes speculative demand which was lower on the week.
The US dollar was higher on the week which is negative for price. Inventories on the week were lower which is positive for price. The stock market, as a proxy for demand expectations, was higher which is positive for price. Speculation was lower on the week which is negative for price. US domestic crude production was higher which is negative for price. Domestic production is up 7.76% on a year over year basis. Oil rig count indicating the number of oil wells currently being developed by drilling was up on the week which is negative for price.
Weekly US petroleum demand increased by 7.96% during the week ending June 16th. Domestic demand is down by 0.38% vs. one-year ago and demand is currently 4.76% above the five year average.
Domestic production decreased for the third week and is 7.76% above year ago levels. The number of operating oil drilling rigs in the US increased by 11 and stands at 758. This is 442 more than the recent low of 316 and 52.89% lower than the peak of 1609 in October 2014. 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 increased by 922,000 barrels per day (+10.94%) since the recent low on July 1, 2016 and has decreased by 260,000 barrels per day (-2.71%) 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 June 23rd.
Below is the one-year chart of spot gasoline futures prices as of June 23rd.
MARKET FACTORS & COMMENTARY:
: : Inventories decreased by 1.95 million barrels while inventories were expected to increase by 0.07 million barrels on the week. The five-year average inventory increased by 1.20 million barrels. Inventories decreased vs. the five year average and vs. expectations.
: : Saudi Arabia see the global petroleum market achieving balance of supply and demand in the next 6-12 months despite increased output from Libya and Nigeria and US shale producers.
: : Libya's output reached a four year high level of production in May increasing the global glut of oil and delaying any rebalancing of the market. This is negative for price.
: : Oil in floating storage in May rose to a 2017 high level of 111.9 million barrels. This is simply growth in global inventory and is negative for price.
: : There are 5946 drilled-but-uncompleted wells in the US, a three year high. These wells can be completed and put into production very quickly and represent 96,000 barrels per day of production that could come to market almost at a moment's notice. This is essentially inventory being held in the well. When prices increase, these wells will be tapped and put into production. This is negative for price and certainly another factor which will keep prices low for longer.
: : The Stock market increased by +0.21% which is positive for economic and petroleum demand expectations and prices.
: : The US Dollar increasing by +0.10% on the week 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.
SUPPLY & DEMAND:
The chart below shows supply and demand history and expectations as of June 2017. Supply and demand are in the process of re-balancing which is the main cause of steady price levels over the past 9 months. This forecast shows a relatively balanced market for 2017 and 2018 which generally indicates firmer and volatile prices moving forward. There will need to be a period of deficit in order to deplete the inventories that have accumulated over the past several years. This will then return the market to more normal conditions and higher prices.
Below is the one-year chart US stock market prices as of June 23rd.
Below is the one-year chart for the US dollar index as of June 23rd.
During the week ended June 16th, total petroleum inventories decreased by 1.95 million barrels vs. a five year average increase of 1.20 million barrels and vs. an expected increase of 0.07 million barrels. Inventories decreased by 3.16 million barrels vs. the five year average and decreased by 2.02 million barrels vs. expectations. Total inventories stand at 903.5 million barrels, down from 905.4 million barrels at the end of the previous week. The five year average inventory is 753.1 million barrels, up from 751.9 million barrels at the end of the previous week.
Current inventories are 19.96% higher than the five year average, down from +20.41% at the end of the previous week.
As of June 20th, the net speculative long position in petroleum futures was 87,298,000 barrels, down 70,604,000 barrels (-44.71%) from the previous week. Speculation decreased for the third week to its lowest level since January 2016 and represents 9.66% of domestic inventories. Speculation is 69.00% below its one year moving average. The corresponding spot month diesel futures price on June 20th was 139.49 cents per gallon, down 5.28 cents from 144.77 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 87.00% correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 75.68% 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 87 million and 488 million barrels with an average of about 282 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 as of June 20th, the market price for spot month diesel futures is estimated to be 109.12 versus the actual price of 139.49. This indicates that the market is currently overvalued by 30.37 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.