Oil stocks see larger than expected draw

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Yesterday the oil complex gained ground in the midst of a risk asset short covering rally that carried WTI back over the $99/bbl level and the soon to expire July Brent contract over the $120/bbl mark. The main event in the oil market was the surging of the Brent /WTI spread which hit yet another new all time record high. As I discussed in detail yesterday the spread blowout is more about what seems to be a physical squeeze in the expiring Brent contract combined with the loss of Libyan oil and the recent force majeure of Nigerian Bonny Light crude oil (due to damage to a pipeline) and less about the overhang of crude oil in the mid-west region of the US. In fact in last night's API oil inventory report they showed a huge crude oil draw in PADD 2 of about 3 million barrels as well as decline of about 1.7 million barrels at Cushing, Ok...certainly not a negative for the WTI side of the spread. The spread remains very overbought and susceptible to a downside correction...possibly after the July spread expires tomorrow.

Yesterday's equity rally which accelerated after a positive retail sales report in the US was the main external driver to support oil prices as well as the broader commodity complex on Tuesday. With equities having been under pressure for the last six weeks or so a major portion of yesterday's move to the upside in the US was also a lot to do with short covering. In fact the positive retail data was enough to offset the news that China continued to tighten by raising it bank capital requirements yet again after the latest inflation data out of China continued to show that inflation is still one of the biggest risks to China's economy. On a global basis the EMI Global Equity Index (table below) saw its weekly loss narrow to just 0.1% leaving the year to date loss at 5.4%. That said the equity rallies in the west were not carried over into the Asian markets at this point in the Asian trading session dampening some of the enthusiasm from yesterday's activity in the US. The latest tightening measure by the Chinese government has cast a negative umbrella over equities today which is spilling over a tad into the oil complex (oil prices are slightly negative as of this writing). So far we can only categorize yesterday move in equities as a short covering rally and certainly not yet a clear signal that equities have bottomed. As such we have to be cautious in reading too much into the rally insofar as ongoing support for oil prices are concerned. Seven of the ten bourses remain in negative territory for the year to date with Brazil still showing a double digit loss for 2011.

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