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Larger Inventories - Fiscal Cliff - Rising Production
During the week ending December 28th, the spot month heating oil futures price increased by 2.24 cents per gallon (+0.74%) while the deferred months increased by 1 to 2 cents per gallon making the forward pricing curve slightly higher and slightly more negatively sloped. The one year forward price ended the week at a 7.57 cent (2.49%) discount to the spot price, from a discount of 6.89 cents (2.28%) 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. 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 smaller inventories and is generally positive for price.
During the week ending December 28th, the spot month gasoline futures price increased by 6.52 cents per gallon (+2.38%) while the deferred months increased by 2 to 5 cents per gallon making the forward pricing curve higher and more negatively sloped. The one year forward price ended the week at a 27.12 cent (10.72%) discount to the spot price, from a discount of 23.55 cents (9.42%) 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 "Fiscal Cliff" remains as the politicians continue to battle in Washington. The consensus continues to be that something will happen to avoid the automatic tax increases and spending cuts on January 1st. Larger than expected inventories on the week were negative for price. The US Dollar was relatively unchanged having little effect on price. The stock market was lower which is negative for price. Speculation was up on the week which is supportive of price.
Weekly US petroleum demand decreased by 5.50% during the week ending December 21st. Demand is up 1.92% vs. one year ago and remains below the five year average.
The attractiveness of making new hedges decreased since prices were higher. Spot diesel prices remain near the middle of the price range that we have seen over the past twelve months. As prices move and as time passes, the advisability of hedging will change. As further price opportunities present themselves, hedging will become more attractive. Entering new, longer-term hedges at these levels would involve less competition with speculators for long futures positions and at relatively attractive prices. Spot heating oil futures in the $2.80 - $2.90 level will trigger additional hedging.
Below is a one year chart of spot heating oil futures prices, the proxy hedging mechanism for diesel fuel, as of December 28th.
Below is a one year chart of spot gasoline futures prices, the hedging mechanism for gasoline, as of December 28th.
Factors affecting the market on the period were:
During the week ended December 21st, total petroleum inventories increased by 5.62 million barrels vs. a five year average decrease of 1.25 million barrels and vs. an expected decrease of 2.00 million barrels. Inventories increased by 6.87 million barrels vs. the five year average. Total inventories stand at 713.6 million barrels, up from 707.9 million barrels at the end of the previous week. The five year average inventory is 677.8 million barrels, down from 679.0 at the end of the previous week. Current inventories are 5.28% larger than the five year average up from +4.25% at the end of the previous week. Inventories versus the five year average on a percentage basis are at an eighteen month high. This is negative for price.
As of December 25th, the net speculative long position in petroleum futures was 223,162,000 barrels up 21,101,000 barrels (+10.44%) from the previous week. The level of speculation increased on the week and represents 31.27% of domestic inventories. Speculation is 17.10% below its one year moving average and is 45.40% below the 52 week high level. Levels remain in the lower half of the range that we have seen over the past two years and lower than the one year average. The corresponding spot month heating oil futures price on December 24th was 300.22 cents per gallon, up 0.57 cents from 299.65 cents per gallon during the previous week.
Heating oil price and size of speculative net long position in petroleum are 83.17% correlated over the past 52 weeks (a decrease on the week) indicating that, on a statistical basis over the past year 69.18% of the price movement of heating oil is explained by changes in levels of speculation. This statistical relationship has stabilized and remains high. 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 244.57 cents per gallon or 55.65 cents per gallon less than current prices. The analysis would indicate that about 18.54% of current price is attributable to speculation and its underlying market rationale. The "would be" price is slowly rising, and was up again by about one cent on the week.
The net speculative long position has been variable over the past year ranging between 70 million and 410 million barrels with an average of about 269 million barrels, a decrease of roughly 1 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.