Quote of the Day
From every mountain side…let freedom ring
Samuel F. Smith
A much larger than expected decline in crude oil as reported by the API last night coupled with the growing unrest in Egypt has pushed the spot WTI price back above the $100/bbl level for first time since September 2012. WTI has been leading the oil complex higher throughout the recent rally that is now in play since the market formed a bottom on June 24. The August Brent/WTI spread blew through another support area and is now trading with a $3 handle while all of the crack spread combinations in the US remain in decline mode.
Oil has broken away from the externals as the global equity markets are pretty much in a free fall overnight after the resignation of several Portuguese officials. Equities have been a negative price driver for the oil complex along with the rising US dollar. However so far this week the oil market has been mostly driven by what the market views as a growing geopolitical risk as massive protests continue in Egypt. Although Egypt is not an oil producer (actually a net oil importer) the concern is the unrest in Egypt spreading to the oil producing region of the Middle East and thus the potential for a supply interruption.
So far there are no signs of this view taking place and as such the risk premium that has built into the price of oil is strictly based on anticipation or the possibility of a supply disruption. As I have discussed all week the risk premium is not likely to recede this week with the long holiday weekend in the US beginning tomorrow and sideling many major trading participants.
I do find it interesting that for the first time in a long time the geopolitical risk premium seems to be building in the WTI contract at a more accelerated rate than in the Brent market. With the Brent/WTI spread continuing on its normalization path (as I have been predicting for months) the market is also changing its focus and seemingly placing more global attention on the WTI contract over the Brent contract.
The Aug Brent/WTI spread did not take too long to breach the $4/bbl support level and has now moved into a new lower trading range of $2.50/bbl on the support side and $4/bbl on the resistance side. The spread is trading at a level not seen since the very end of 2010. There is no doubt that the spread will hit parity this year as I have suggested it would months ago. More and more capacity is coming on stream during the course of 2013 that will increase the outflow of crude oil from the Cushing area. It is only a matter of time before crude oil inventory levels in the Cushing area recede significantly and all but eliminate a return to the massive inventory overhang levels seen over the last several years that completely turned the benchmarking world upside down.
Further adding to the bearish viewpoint of the spread is the growing backwardation of the WTI forward curve which is suggesting that inventories are likely to decline in Cushing going forward as there is no economic advantage to building crude oil inventories. I have been and remain bearish the Brent/WTI spread as parity is clearly in sight and if the infrastructure changes continue along with North Sea production operating mostly normally WTI will actually begin to trade at a premium over Brent as it did before the massive crude oil surplus issues hit the US Midwest.
Global equities were hit with a strong round of selling over the last twenty four hours as the Portuguese coalition government looks to be on the brink of collapse. Just when everyone thought the EU was out of the woods up pops Portugal and a reminder that the sovereign debt issues in the region are not fully in the background. The EMI Index has declined by 2 percent for the week with the year to date loss now sitting at the highest level of the year at 8.9 percent. The last time the EMI Index was trading at the current level was almost one year ago in early July of 2012. Needless to say the global equity markets are currently a negative price driver for the oil complex… although oil is currently beating to a different drum as discussed above.
Wednesday's API report was simply bullish with across the board draws in inventories. Total crude oil stocks decreased by a much greater than expected 9.4 million barrels as crude oil imports decreased strongly while refinery run rates increased by 0.3 percent. The API reported a surprise draw in both distillate fuel inventories and in gasoline stocks.
The entire oil complex is higher as of this writing and heading into the EIA oil inventory report to be released at 10:30 AM EST 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. On the week gasoline stocks decreased by about 0.2 million barrels while distillate fuel stocks decreased by about 2.3 million barrels.
The API reported Cushing crude oil stocks increased by 0.400 million barrels. The API and EIA have been very much in sync on Cushing crude oil stocks and as such we should see a similar draw in Cushing in the EIA report. Directionally it is bullish for the spread. However, as discussed above the spread is continuing to narrow.
My projections for this week’s inventory report are summarized in the above table. I am expecting a modest draw in crude oil inventories, and builds in both distillate fuel and gasoline stocks.
I am expecting crude oil stocks to decrease by about 2.3 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 4.6 million barrels while the overhang versus the five year average for the same week will come in around 39.9 million barrels.
I am expecting crude oil stocks in Cushing, Ok to decrease this week after a few weeks of builds. This will be bearish for the Brent/WTI spread as the fundamentals are in play and are driving the spread.
With refinery runs expected to increase by 0.2 percent I am expecting a modest build in gasoline stocks. Gasoline stocks are expected to increase by 0.5 million barrels which would result in the gasoline year over year surplus of around 21.1 million barrels while the surplus versus the five year average for the same week will come in around 14.3 million barrels.
Distillate fuel is projected to increase by 1 million barrels. If the actual EIA data is in sync with my distillate fuel projection inventories versus last year will likely now be about 5.3 million barrels above last year while the deficit versus the five year average will come in around 15 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 not in directional sync with some differences compared to last year’s changes. As such if the actual data is in line with the projections there will be modest changes in the year over year inventory comparisons for most everything in the complex.
I now have a mixed view for the oil complex with my crude oil bias at cautiously bullish, neutral for HO and cautiously bearish for RBOB gasoline. The overall oil fundamental picture is still biased to the bearish side but the changing view of how long QE3 may or may not last in the US is providing some support to the crude oil on a macro basis.
I am maintaining my Nat Gas view and bias at cautiously bearish based on a less supportive short term temperature forecast and bearish weekly inventory report. The fundamental picture as shifting back to a more bearish mode.
This week the EIA will release its inventory on Wednesday, July 3rd at 12 noon due to the Independence Day holiday on Thursday. This week I am projecting the twelfth injection of the season of 80 BCF into inventory. My projection for this week is shown in the following table and is based on a week that experienced some above normal temperatures during the report period. My projection compares to last year's net injection of 41 BCF and the normal five year net injection for the same week of 71 BCF. Bottom line the inventory deficit will narrow this week versus both last year and the so called more normal five year average if the actual numbers are in sync with my projections. This week's net injection will be slightly bearish when compared to the historical data.
If the actual EIA data is in line with my projections the year over year deficit will come in at about 483 BCF. The deficit versus the five year average for the same week will narrow to around 22 BCF. The early market consensus is projecting the eleventh injection of the season in the range of 65 BCF to 85 BCF with the Reuters market consensus around 71 BCF.
Markets are mixed heading into the US trading session as shown in the following table.
Dominick A. Chirichella