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Prices Higher - Inventory Sharply Lower - Speculation Higher
During the week ending July 5th, the spot month heating oil futures price increased by 13.09 cents per gallon (+4.58%) while the deferred months increased by 8 to 13 cents per gallon making the forward pricing curve higher and more negatively sloped. The one year forward price ended the week at a 8.25 cent (2.76%) discount to the spot price, from a discount of 5.95 cents (2.07%) and the end of the previous week.
The change in level and slope of this forward pricing curve indicates higher demand expectations and lower 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 July 5th, the spot month gasoline futures price increased by 18.12 cents per gallon (+6.67%) while the deferred months increased by 8 to 17 cents making the forward pricing curve higher and more negatively sloped. The one year forward price ended the week at an 15.35 cent (5.60%) discount to the spot price, from a discount of 8.55 cents (3.21%) and the end of the previous week.
The change in level and shape of this forward pricing curve indicates higher demand expectations and lower inventory levels with respect to supply and demand.
The US dollar was higher on the week which is negative for price. Inventories on the week were sharply lower yet remain above historical averages. This is positive for price. The stock market, as a proxy for demand expectations, was higher which is positive for price. Speculation was higher on the week which is positive for price. US domestic crude production continues to be strong and increased on the week which is negative for price. Geopolitical risk continues to be a background factor that is supportive of price.
Weekly US petroleum demand increased by 7.51% during the week ending June 28th. Demand is down by 1.26% vs. one year ago and demand is currently 2.00% below the five year average.
The attractiveness of making new hedges decreased on the week given the higher price environment and higher speculation. Higher speculation indicates that new hedges would require more 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.
Below is a one year chart of spot diesel futures prices as of July 5th.
Below is a one year chart of spot gasoline futures prices, the hedging mechanism for gasoline, as of July 5th.
Factors affecting the market on the period were:
During the week ended June 28th, total petroleum inventories decreased by 14.48 million barrels vs. a five year average decrease of 1.22 million barrels and vs. an expected decrease of 0.60 million barrels. Inventories decreased by 13.27 million barrels vs. the five year average. Total inventories stand at 728.2 million barrels, down from 742.7 million barrels at the end of the previous week. The five year average inventory is 701.3 million barrels, down from 702.5 million barrels at the end of the previous week.
Current inventories are 3.84% larger than the five year average down from +5.72% 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 July 2nd, the net speculative long position in petroleum futures was 274,616,000 barrels up 34,088,000 barrels (+14.17%) from the previous week. The level of speculation increased for the first time in two weeks and represents 32.39% of domestic inventories. Speculation is 5.15% above its one year moving average and is 33.16% below the 52 week high level. Speculative levels returned to near the middle of the past year's range. The corresponding spot month diesel futures price on July 2nd was 290.14 cents per gallon, up 4.30 cents from 285.84 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 73.14% correlated over the past 52 weeks (a decrease on the week) indicating that, on a statistical basis over the past year 53.50% of the price movement of diesel fuel is explained by changes in levels of speculation. This statistical relationship continues to become weaker and 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 247.89 cents per gallon or 37.95 cents per gallon less than current prices. The analysis would indicate that about 13.28% of current price is attributable to speculation and its underlying market rationale. The "would be" price was up about 4.0 cents on the week.
The net speculative long position has been variable over the past year ranging between 178 million and 360 million barrels with an average of about 254 million barrels, which was an increase of about 2 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.