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Iran Sanctions - Dollar Lower - Speculation to One Year Lows - Stock Market Lower - Inventory Higher - Prices Lower
During the week ending October 12th, the spot month diesel futures price decreased by 7.10 cents per gallon (-2.97%) while the deferred months decreased by 5-7 cents per gallon making the forward pricing curve lower but relatively unchanged in slope. The one year forward price ended the week at a 0.12 cent discount to the spot price, from a discount of 0.03 cents at the end of the previous week.
The level and slope of the diesel forward pricing curve indicates lower current demand expectations and steady inventories with respect to demand. Demand also includes speculation which was lower 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 October 12th, the spot month gasoline futures price decreased by 14.41 cents per gallon (-6.91%) while the deferred months decreased by 8-14 cents per gallon making the forward pricing curve lower and positively sloped. The one year forward price ended the week at a 3.09 cent premium to the spot price, from a discount of 1.32 cents and the end of the previous week.
The change in level and shape of this forward pricing curve indicates lower current demand expectations and higher inventory levels with respect to supply and demand. Demand also includes speculation which was lower on the week.
Weekly US petroleum demand decreased by 1.74% during the week ending October 5th. Domestic demand is up by 0.19% vs. one-year ago and demand is currently 4.13% above the five year average.
Domestic production was higher on the week and is 18.14% above year ago levels. The number of operating oil drilling rigs in the US increased from 861 to 869 on the week. Currently, this is 553 more than the low of 316 rigs in 2016 and 45.99% lower than the peak of 1609 in October 2014. This high rig count is causing US production to grow and is a factor in buffering supply disruptions in other parts of the world. US domestic production has increased by 2,772,000 barrels per day (+32.89%) since the low on July 1, 2016.
Below is the one-year chart of spot diesel futures prices as of October 12th.
Below is the one-year chart of spot gasoline futures prices as of October 12th.
MARKET FACTORS & COMMENTARY:
: : Petroleum inventories increased on the week by 4.27 million barrels while inventories were expected to increase by 0.07 million barrels on the week. The five-year average inventory increased by 0.78 million barrels. Inventories increased vs. the five year average and vs. expectations.
: : Iranian production has already begun to decline as they have fewer countries that are willing to buy from them ahead of the sanctions being reinstated as of November 1st. It remains to be seen how hard the sanction bite and how low Iranian production will ultimately go. Regardless of where Iranian production finally settles, the rest of the world’s producers appear to stand ready to fill the gap. This is already beginning to happen with US production setting another record, Russian production surging, and OPEC production increasing even when Iran and Venezuela are included.
: : The Stock market decreased by -4.10% which is negative for general economic activity and is positive for petroleum prices.
: : The US Dollar decreased by -0.42% on the week which 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.
OPEC Production Five Year History - Up 970,000 barrels per day from May to September.
SUPPLY & DEMAND:
The chart below shows supply and demand history and expectations as of October 2018. According to the chart, global supply has been about 600,000 barrels per day less than consumption for the past year but balanced for the fourth quarter of 2018 and then a slight surplus is forecasted for 2019. In earlier forecasts, there was more of a surplus for the remainder of 2018 and 2019 meaning that this updated forecast is more supportive of price.
Below is the one-year chart US stock market prices as of October 12th.
Below is the one-year chart for the US dollar index as of October 12th.
During the week ended October 5th, total petroleum inventories increased by 4.27 million barrels vs. a five year average increase of 0.78 million barrels and vs. an expected increase of 0.08 million barrels. Inventories increased by 3.49 million barrels vs. the five year average and increased by 4.20 million barrels vs. expectations. Total inventories stand at 779.6 million barrels, up from 775.3 million barrels at the end of the previous week. The five year average inventory is 767.2 million barrels, up from 766.4 million barrels at the end of the previous week.
Current inventories are +1.61% versus the five year average, up from +1.16% at the end of the previous week. Inventory has been growing vs. the five year average since August.
As of October 9th, the net speculative long position in petroleum futures was 443,201,000 barrels, down 36,039 barrels (-7.52%) from the previous week. Speculation decreased for the first time in three weeks and represents 56.85% of domestic inventories. Speculation is 18.25% below its one year moving average. The corresponding spot month diesel futures price on October 9th was 242.38 cents per gallon, up 1.62 cents from 240.76 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 0% correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 0% of diesel fuel price movements are explained by changes in level of speculation. One-year correlation has declined sharply in the past several months.
The net speculative long position has been variable over the past year ranging between 342 million and 703 million barrels with an average of about 542 million barrels, which is up roughly 3 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 October 9th, the market price for spot month diesel futures is estimated to be 184.88 versus the actual price of 242.38. This indicates that the market is currently overvalued by 57.50 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.