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Prices Up - Speculation Up - Domestic Production Up
During the week ending September 25th, the spot month diesel futures price increased by 3.18 cents per gallon (+2.13%) while the deferred months increased by 1 to 3 cents per gallon making the forward pricing curve higher and less positively sloped. The one year forward price ended the week at a 14.64 cent premium to the spot price, from a premium of 15.52 cents at the end of the previous week.
The change in level and slope of the diesel forward pricing curve indicates higher demand expectations and lower supplies with respect to demand. Demand includes speculative demand which was higher 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 September 25th, the spot month gasoline futures price increased by 3.97 cents per gallon (+2.93%) while the deferred months increased by 2 to 4 cents per gallon making the forward pricing curve higher and less positively sloped. The one year forward price ended the week at a 3.90 cent premium to the spot price, from a premium of 4.11 cents 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 increased on the week which is negative for price. Inventories on the week were lower and lower than expectations which is positive 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 for price. US domestic crude production was higher which is negative for price. Domestic production is up 3.03% year over year down from +3.15% year over year during the previous week.
As prices move and as time passes, the advisability of hedging will change. As further price opportunities present themselves, hedging may become more attractive.
Weekly US petroleum demand increased by 8.61% during the week ending September 18th. Domestic demand is up 1.62% vs. one-year ago and demand is currently 3.62% over the five year average.
Domestic production increased for the first time in seven weeks but only slightly. The number of operating oil drilling rigs in the US decreased for the fourth week in a row to 640 which is just 12 more than the recent low of 628. This is positive for price as less drilling should lead to less US production - and lower production is now materializing. If and when rig count picks up, this will be indicative of an increase in supply 12-18 months forward.
OPEC production is up 5.88% year over year at near record levels. The imbalance in supply and demand is expected to last longer that was first thought and into 2016 and beyond. This will keep prices low for the short to medium-term. As global demand grows to meet supply and the market becomes balanced, prices will increase. If demand does not grow as quickly as expected, prices will fall to curtail supply.
Below is the one-year chart of spot diesel futures prices as of September 25th.
Below is the one-year chart of spot gasoline futures prices as of September 25th.
: : Inventories decreased by 2.64 million barrels while inventories were expected to increase by 0.51 million barrels on the week. The five-year average inventory decreased by 1.42 million barrels. Inventories decreased vs. the five year average and vs. expectations. The global market continues to be oversupplied by 1.5 to 2.5 million barrels per day which will keep downward pressure on prices
: : Iran appears to be cooperating with the International Atomic Energy Agency in order to become compliant with the conditions that need to be met before sanctions can be lifted. This causes optimism that Iranian oil will, indeed, be returning to the market which is negative for price expectations and will serve to make the global oversupply even larger.
: : Concerns about Chinese demand put downward pressure on the market as the September Caixin Manufacturing Purchasing Manager's Index fell to a 6.5 year low signaling a slowing Chinese economy and slowing petroleum demand growth.
: : The revision of US Second Quarter GDP from +3.7% to +3.9% raised economic expectations and is supportive of petroleum demand expectations and price.
: : Stock market decreasing by -1.36% on the week is generally negative for economic and petroleum demand expectations and prices.
: : The US Dollar increasing by +1.48% 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.
Below is the one-year chart US stock market prices as of September 25th.
Below is the one-year chart for the US dollar index as of September 25th.
During the week ended September 18th, total petroleum inventories decreased by 2.65 million barrels vs. a five year average decrease of 1.42 million barrels and vs. an expected increase of 0.51 million barrels. Inventories decreased by 1.23 million barrels vs. the five year average and 3.16 million barrels vs. expectations. Total inventories stand at 824.6 million barrels, down from 827.2 million barrels at the end of the previous week. The five year average inventory is 711.7 million barrels, down from 713.1 million barrels at the end of the previous week.
Current inventories are 15.86% higher than the five year average, down from +16.00 at the end of the previous week.
As of September 22nd, the net speculative long position in petroleum futures was 157,955,000 barrels, up 21,772,000 barrels (+15.99%) from the previous week. Speculation increased for the fifth week in a row and represents 19.16% of domestic inventories. Speculation is 18.51% below its one year moving average. The corresponding spot month diesel futures price on September 22nd was 153.20 cents per gallon, up 3.20 cents from 150.00 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 29.45 correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 8.67% of diesel fuel price movements are explained by changes in level of speculation. As we have seen the market overwhelmed by supply, petroleum market fundamentals have taken the role of setting price and speculators are less able to move the market price. With the current over supply situation and the expectation that this will persist, long-side speculation will remain low and have a muted effect on price as we have seen.
The net speculative long position has been variable over the past year ranging between 78 million and 285 million barrels with an average of about 194 million barrels, which is down about 1 million barrels on the week.
The "would be" price was 6.44 cents over market meaning that all else being equal and based on the level of speculation, the market is slightly undervalued.
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.