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Prices Up - Rig Count Down - Inventory Down - Speculation Down
During the week ending October 30th, the spot month diesel futures price increased by 4.50 cents per gallon (+3.09%) while the deferred months increased by 2 to 4 cents per gallon making the forward pricing curve higher and unchanged in slope. The one year forward price ended the week at an 18.16 cent premium to the spot price, from a premium of 18.66 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 steady supplies with respect to demand. Demand includes speculative demand 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 30th, the spot month gasoline futures price increased by 10.14 cents per gallon (+7.78%) while the deferred months increased by 3 to 8 cents per gallon making the forward pricing curve higher and less positively sloped. The one year forward price ended the week at a 4.31 cent premium to the spot price, from a premium of 9.10 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 decreased on the week which is positive 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 higher which is negative 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 1.58% year over year down from +1.81% year over year during the previous week.
Weekly US petroleum demand increased by 4.24% during the week ending October 23rd. Domestic demand is up 1.05% vs. one-year ago and demand is currently 0.03% below the five year average - the first time domestic demand has been below the five year average since June of 2014.
Domestic production increased for the first time in three weeks but only slightly. The number of operating oil drilling rigs in the US decreased for the ninth week in a row to 578. This is the lowest level since June of 2010. 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 3.96% 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 October 30th.
Below is the one-year chart of spot gasoline futures prices as of October 30th.
: : Inventories decreased by 0.71 million barrels while inventories were expected to increase by 0.75 million barrels on the week. The five-year average inventory decreased by 2.21 million barrels. Inventories increased vs. the five year average and decreased vs. expectations. The global market continues to be oversupplied by 1.5 to 2.0 million barrels per day which, along with large global inventories, will keep downward pressure on prices.
: : The Chinese Central Bank cut rates by 0.25% in order to stimulate their sluggish economy. This is positive for economic growth prospects in China, petroleum demand expectations and price.
: : :: US Third quarter GDP growth and September pending home sales were both weaker than expected which is negative for economic growth expectations, petroleum demand expectations, and price.
: : Stock market increasing by +0.20% on the week is generally positive for economic and petroleum demand expectations and prices.
: : The US Dollar decreasing by -0.19% 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.
Below is the one-year chart US stock market prices as of October 30th.
Below is the one-year chart for the US dollar index as of October 30th.
During the week ended October 23rd, total petroleum inventories decreased by 0.71 million barrels vs. a five year average decrease of 2.21 million barrels and vs. an expected increase of 0.75 million barrels. Inventories increased by 1.50 million barrels vs. the five year average and decreased by 1.47 million barrels vs. expectations. Total inventories stand at 840.7 million barrels, down from 841.4 million barrels at the end of the previous week. The five year average inventory is 709.4 million barrels, down from 711.6 million barrels at the end of the previous week.
Current inventories are 18.50% higher than the five year average, up from +18.23 at the end of the previous week.
As of October 27th, the net speculative long position in petroleum futures was 118,086,000 barrels, down 30,875,000 barrels (-20.73%) from the previous week. Speculation decreased for the second week in a row and represents 14.04% of domestic inventories. Speculation is 38.20% below its one year moving average. The corresponding spot month diesel futures price on October 27th was 142.44 cents per gallon, down 2.43 cents from 144.87 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 51.50 correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 26.52% of diesel fuel price movements are explained by changes in level of speculation. With the current over supply situation and the expectation that this will persist, long-side speculation will remain relatively low.
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 191 million barrels, which is down about 1 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, the market price is estimated to be 155.16 versus the actual price of 142.44. This indicates that the market is currently undervalued by 12.72 cents per gallon.
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.