by Brynne Kelly
May 5, 2017
Rotation from Oil to Equities??
As the upside picture for crude prices is called in to question in light of the deteriorating supply/demand picture, ‘capital’ may be moving to markets with greater upside potential. Could that be what we are seeing in the chart divergence above?
Equities aren’t the only market holding relative value this week. Crude Oil is losing ground everywhere you look.
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WTI versus Natural Gas
While there is no real direct correlation between WTI and Henry Hub, they are both part of the ‘energy complex’ and you can see below that the ‘spread’ is now lower than it was at this time last year.
WTI versus NGL’s
In addition, the NGL components, that are often considered to follow the price of oil, fell a combined 2.33% for the June contract compared to WTI’s 8.26% decline for the same period.
WTI versus Gasoline
Even the front months of the gasoline crack held steady amidst the continued slide in petroleum prices during the May 4 trading session.
So the question is: Will oil pull the above-mentioned markets lower, are they signaling a bottom or is oil on a path of its own?
This week’s EIA statistics
Weekly Oil Inventories showed a net DRAW of 2.7 for the week ending April 28, 2017; Crude draw overshadowed by a slight BUILD of .2 in Gasoline stocks (see detailed stats in Figure 1)
This week’s gasoline build of .2 brings the 4 week total to a build of 2.1.
How the 1 and 4 week-cumulative inventory changes stack up
Looking at the EIA report (below) of total gasoline supplied alone, nothing stands out. However, the conclusion of the market is that due to the builds in gasoline the demand-side of the equation is where the problem lies.
Which is exactly what we see in the weekly US Gasoline demand stats (below)
This reminds me of natural gas inventories heading into the winter season. Everyone is full of anticipation waiting for the demand (weather) to show up to use all of the production that has been stored away. If the weather doesn’t show up, the market moves on and focuses on the next demand season.
If we don’t see the gasoline demand materialize, a similar thing will happen in the oil complex. The market will move on from “driving” season to the next demand season, which in this case is heating (heating oil) season.
Perhaps they already are. You can see below that the heating oil cracks sold off more this past week than gasoline cracks did.
Crude Oil Prices and Spreads
There was a mixed bag when it came to the crude oil spreads (arbs) this week. Both the Brent/WTI and Brent/LLS spreads fell slightly versus last week in the front of the curve, but actually increased over last week in the back of the curve. That was not the case for the Brent/Dubai spreads in which the entire spread curve shifted lower.
Demand-willing, the spreads still favor US crude oil moving towards Europe and Asia. The tighter Brent/Dubai spread also increases the competitiveness of North Sea crude against Middle Eastern grades, meaning we should see a widening of the Brent/WTI spread. Any increase in shipping rates at this point would throw a wrench in all of these movements.
Crude oil prices (Figure 2 below) fell an average of 3.2% since last week’s report with gasoline prices down another 4.6% and distillates down 7.3% (Figure 3 below). The Dec7/Dec8 spread held on to its slight backwardation in oil with the Jun7/Dec7 spread contango widening by $0.14, not a ringing endorsement for short-term oversupply. Rather, it points to a general expectation of current conditions to persist throughout the rest of the year.
This, unfortunately, will incent refiners towards gasoline production in the short term since it carries the highest premium to crude oil prices in the market.
Comparing this week’s production and inventory levels to the same week in 2016, 2015 and 2014, the percentage change in US oil prices are certainly reacting negatively by varying magnitudes to the percentage that current inventories exceed those in prior years. Keep an eye on these year over year percentages going forward.
What to look for in the coming week:
- Entry point into any of the ‘one-off’ spreads (ES/WTI, NG/WTI, NGL/WTI) mentioned above if you believe they will revert to the mean.
- RB and HO cracks. Front month gas cracks are at 4 year lows for this time of year, but if demand doesn’t materialize relative to supply, refining margins will have to get ‘punitive’.
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