Quote of the Day.
Wherever you go, go with all of your heart.
One of the main features in the oil complex this week has been the ongoing widening of the Brent/WTI spread. Ever since the announcement that the flow through the Seaway pipeline would be constrained WTI's discount to Brent has been growing with the rest of the complex once again moving much more in sync with Brent rather than WTI as the surplus of crude oil in the mid-west does not look like it is going to dissipate anytime soon. The March Brent/WTI spread is trading solidly above the last resistance level of $19.50/bbl (now support) and seems clearly headed to test the November high of around $20.90/bbl. Further supporting the bullish side of the spread is the start of the spring refinery maintenance season which will result in a decline in demand for crude oil in the mid-west (and elsewhere in the U.S.) and thus further delay the surplus of crude oil in PADD2 and Cushing, Ok from dissipating. For the moment both the fundamentals and the technicals are bullish for the spread.
As I have been discussing in the newsletter, geopolitics are acting as a price floor for the oil complex even as the West and Iran and are scheduled to meet on Feb. 25 in Kazakhstan. Today the U.S. will tighten sanction on Iran by blocking buyers of Iranian crude oil from paying in U.S. dollars. Under penalty of expulsion from the U.S. banking system buyers of Iranian oil will now be restricted to using their own currencies and keeping their payments in escrow. Iran will thus only be able to use the funds for locally sourced goods and services... sort of a barter transaction.
On the macroeconomic front most of the data from the main regions of the world have been relatively positive coming in better than expected and thus suggesting that the global economic recovery may have turned the corner and may be now growing at a faster pace. There is no question that the U.S. economy (for example) is in a growth pattern. The main problem is the pattern is still much too slow to result in a significant change to areas of the economy like employment and consumer spending (which represents about 70% of the U.S. GDP). Much like in the U.S., many of the developed world countries are flooding their economies with liquidity in the form of very low short term interest rates and large amounts of quantitative easing. Although the global economy is in a growth pattern the very accommodative monetary policies in play around the world are still very much the reason why the economy is growing at all. Another example the Japanese yen hit a three year low in overnight trading in anticipation that the Bank of Japan may ease even further and in larger increments (QE).
As long as many major central banks continue to operate in a very accommodative manner the downside for most risk asset markets like equities, oil and most other traditional commodities will be limited. That does not mean values will only go higher. I still see most risk asset markets as being overbought and very susceptible to further rounds of profit taking selling as we experienced on Monday. What I do not see is a major collapse in values and the start of a sustained downtrend in the short to even medium term. With money continuing to move into the global equity and commodity markets I would expect that most of the future rounds of profit taking selling will likely be met with bottom picking buying thus limiting the downside moves to increments of 1% to 2% at any time (equities).
With the oil complex moving very much in sync with the equity sector any further downside corrections in equities will quickly spread to the oil complex. The market sentiment is similar to what it was at the end of the first quarter of 2009 when market participants started to discount the nearby conditions and focus on what the economy would be like down the road if it remains in a growth pattern. As in 2009 the so called perception trade drove values and it is once again driving most risk asset values at the moment. From time to time the current fundamentals have an impact but the main driver is the perception that the global economy will be more robust down the road.
Global equities were relatively flat over the last 24 hours as shown in the EMI Global Equity Index table below. The Index is still down by about 1% for the week with the year to date gain currently at 1.6%. The Japanese bourse is surging and is now a showing double digit gain for the year as the Yen continues to depreciate in anticipation of further monetary accommodation. A falling Yen is very supportive for this export driven economy. China is a close second as most of the economic data that has been released over the last month or so have been suggesting that the main economic and oil demand growth engine of the world may now be growing at a faster pace than last year.
Yesterday's API report was mixed with a larger than expected build in crude oil, a build in gasoline within the expectations and a surprise draw in distillate fuel. Total crude oil stocks increased by 3.6 million barrels versus an expectation for a more modest build. Gasoline showed a build in inventory while distillate fuel stocks decreased versus an expectation for a small build. The API reported a 3.6 million barrel build in crude oil stocks versus an industry expectation for a modest build of around 2.5 million barrels as crude oil imports decreased but offset a tad by a modest increase in refinery run rates by 0.2%. The API reported a modest draw in distillate and a build in gasoline stocks.
The API report is neutral to bearish as total stocks built even with the draw in distillate fuel. The oil market is mostly lower heading into the US trading session and ahead of the EIA oil inventory report at 10:30 AM today. The market is usually cautious on trading on the API report and prefers to wait for the more widely watched EIA report due out this morning. I view the current gains in oil prices to be more related to the economic data and not the API report. The API reported PADD 2 stocks decreased by 0.4 million barrels while Cushing stock decreased by just 24,000 barrels. On the week gasoline stocks increased by about 1.6 million barrels while distillate fuel stocks decreased by about 1.4 million barrels.
My projections for this week’s inventory report are summarized in the following table. I am expecting the US refining sector to decrease marginally. I am expecting a modest build in crude oil inventories, a small build in distillate fuel... as the weather was not very winter like over the east coast... and a modest build in gasoline stocks during the report period even as refinery runs continue to decline ahead of US maintenance season. I am expecting crude oil stocks to increase by about 2.5 million barrels. If the actual numbers are in sync with my projections the year over year comparison for crude oil will now show a surplus of 32.3 million barrels while the overhang versus the five year average for the same week will come in around 43.8 million barrels.
I am expecting a build in crude oil stocks in Cushing, Ok and in PADD 2 as the Seaway pipeline has been has been running at constrained levels for most of the report period. This will be bullish for the Brent/WTI spread in the short term as the spread is currently trading well above the level it was trading at just prior to the Seaway pipeline announcement.
With refinery runs expected to decrease by 0.2% I am expecting a modest build in gasoline stocks. Gasoline stocks are expected to increase by 1.6 million barrels which would result in the gasoline year over year surplus coming in around 2.1 million barrels while the surplus versus the five year average for the same week will come in around 4.2 million barrels. If the actual gasoline build is in sync with my projection gasoline stocks will have built by about 37 million barrels since November.
Distillate fuel is projected to increase by 0.3 million barrels. If the actual EIA data is in sync with my distillate fuel projection inventories versus last year will likely now be about 15.7 million barrels below last year while the deficit versus the five year average will come in around 16.5 million barrels.
The following table compares my projections for this week's report (for the categories I am making projections with the change in inventories for the same period last year. As you can see from the table last year's inventories are mostly in directional sync with this week's projections. As such if the actual data is in line with the projections there will only be modest changes in the year over year inventory comparisons for just about everything in the complex.
I am downgrading my view for WTI to neutral to cautiously bearish but maintaining my view at neutral bias at cautiously bullish for Brent and the rest of the complex. That said I am continuing to fly the caution flag as any additional equity market corrections will impact oil prices in much the same way... round of profit taking selling (as we saw yesterday).
I am moving my Nat Gas view and bias to neutral as the weather forecasts and nearby temperatures remain somewhat supportive. As I have been discussing for weeks the direction of Nat Gas prices are primarily dependent on the actual and forecasted weather pattern now that we are still in the heart of the winter heating season and currently those forecasts have turned a tad more supportive at the moment.
Markets are mostly lower heading in the US trading session as shown in the following table.