Crude normalcy coming?

Weekly Energy Markets Analysis

The Iraqi oil price risk premium is now completely out of the market even as the fighting continues but oil flow has not been interrupted nor does it look like it will anytime soon. Both Brent NYMEX:SCN14 and WTI  (NYMEX:CLN14) prices are back to the pre-Iraqi crisis level and the trading range that was in play going back to mid-May. The combination of Iraq oil still flowing as normal and the potential for additional crude oil supplies from Libya have been weighing on the market for the last week or so. Not only has the flat price been in a downtrend since the third week of June but key spreads like the Brent/WTI spread has been back in a narrowing pattern since June 20th.

In spite of the start of destocking of the surplus crude oil inventories in the U.S. global supply and demand balances remain biased to the oversupplied side. The physical cargo market is still biased to the bearish side a large number of cargoes remain on offer. Last night’s API inventory data (see below for more details) release was mixed with a crude oil decline less than the expectations and a build in Cushing stocks versus an expectation for a small draw. Even with that the August Brent/WTI spread is still narrowing further overnight as the major portion of the narrowing has been coming from the international side of the spread.

The August Brent/WTI spread is now within $0.10/bbl of testing the current technical range support level of $5.25/bbl. If the spread breaches and settles below the support level the path toward normalcy will have to breach the next several support levels at $3.40/bbl hit on 4/11 of this year, then around $2/bbl traded back in September of 2013 and finally parity which was hit back in July of 2013. As I have discussed many times I remain bearish for the spread and expect it to trade in its normal historical relationship of WTI at a modest premium over Brent sometime during the next three to six months.

In the for interest category Reuters is reporting that piracy is alive and well as pirates continue to cause problems in southeast Asia. Since April at least six fuel tankers have been hijacked and drained in the Malacca Straits or nearby waters of the South China Sea according to the International Maritime Bureau.

Energy trading on the futures exchanges have declined according to an article in Bloomberg this morning. The volume of light, sweet crude futures handled by CME Group Inc. (NASDAQ:CME) slumped 22 percent to an average of 489,658 contracts a day in May from a year earlier, the bourse’s data show. Natural gas trades fell the same amount. Brent crude transactions on ICE were 9 percent lower in the first six months compared to the same period in 2013.

Global equities have continued to be hit with selling pressure for the last two sessions with the EMI Global equity Index declining by another 0..52 percent over the last twenty four hours. The Index is still showing a year to date gain of 2.0 percent with six of the ten bourses in the Index still in positive territory. The rankings have not changed with Canada still at the top of the leader board with a double digit return for 2014 on relatively high oil prices. Japan is still at the bottom of the list but with a year to date loss well off of the worst levels of the year. The global equity market has been a negative price driver for the oil complex so far this week.

Tuesday's API report was mixed and biased to the neutral to slightly bullish side for both crude oil and for refined products. Crude oil imports decreased modestly by 174,000 bpd into the US with refined product exports from the US likely steady from the Gulf region. Total inventories of crude oil and refined products combined were lower on the week.

The oil complex is mostly lower 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.

Crude oil stocks decreased by 1.7 million barrels and less than the market expectations. On the week gasoline stocks increased by 0.1 million barrels and versus my forecast for a modest draw while distillate fuel stocks decreased by 0.5 million barrels versus an expectation for a build.

The API reported Cushing crude oil stocks increased by 0.597 million barrels for the week. The API and EIA have been very much in sync on Cushing crude oil stocks and as such we should see a similar build in Cushing in the EIA report. Directionally it is bullish for the Brent/WTI spread.

My projections for this week’s inventory report are summarized in the following table. I am expecting a modest draw in crude oil stocks as refinery runs are expected to move higher. I am expecting a small draw in gasoline inventories after the high demand holiday weekend in the United States. Distillate fuel stocks are projected to increase on the week.

I am expecting crude oil stocks to decrease by about 2.2 million barrels with the total stock level well off of its record highs. If the actual numbers are in sync with my projections the year over year comparison for crude oil will now show a surplus of 8.8 million barrels while the overhang versus the five year average for the same week will come in around 19.5 million barrels.

I am expecting crude oil inventories in Cushing, Okla., to decrease even as the outflow from Cushing decreased last week. A small increase in refinery utilization rates in the PADD 2 region is likely to result in an increase in crude oil demand and thus supportive of a draw in crude oil inventories in both PADD 2 and Cushing which is bearish for the Brent/WTI spread.

The Keystone Gulf Coast line decreased its pumping rate modestly after three weekly increases in a row. The line is back below the 300,000 bpd level for the week ending Jul 4th. Genscape is reporting a flow of 284,626 bpd or a decrease of 81,495 bpd compared to the previous week. Last week the Keystone line moved about 2.0 million barrels of crude oil out of Cushing or about 0.6 million barrels less than the previous week. Flow from Seaway decreased marginally by 5,122 bpd suggesting that there is likely to be a small draw in Cushing stocks based solely on the current pipeline data. The inflow into Cushing increased by less than the outflow decrease.

According to the latest data from Genscape (for more information on Genscape data products visit their website) the pipeline outflow from Cushing decreased modestly as the Keystone Gulf Coast line decreased last week. For the week ending Jul 4th total net outflow from Cushing decreased by an average of 103,252 bpd (mostly due to a decrease on the Keystone pipeline). Seaway pipeline averaged 233,659 bpd for the week ending Jul 4th and is still below the 300,000 bpd level. The inflow into Cushing increased modestly by 43,505. The Hawthorn pipeline increased modestly as train moved into Stroud.

I am expecting a modest draw of crude oil stocks in PADD 3 (Gulf) as refinery run rates increase. Following is the status of PADD 3 crude oil stocks compared to working storage capacity in the region. As shown working storage capacity in PADD 3 crude oil inventories decreased 1.1 percent to 74.9 percent utilization level. On the other hand Cushing stocks are now running at only 25.3 percent of workable capacity as the destocking of Cushing inventories continues. With crude oil demand in the region starting to pick up we have likely seen the highs in inventories in the PADD 3 area already.

With refinery runs expected to increase by 0.2 percent and after the high demand July 4th weekend in the United States I am expecting a small draw in gasoline stocks. Gasoline stocks are expected to decrease by 0.5 million barrels which would result in the gasoline year over year deficit coming in around 7.8 million barrels while the surplus versus the five year average for the same week will come in around 1.6 million barrels.

Distillate inventories are projected to increase by 1.2 million barrels as exports of distillate fuel out of the US Gulf continue while heating demand is now basically non-existent. If the actual EIA data is in sync with my distillate fuel projection inventories versus last year will likely now be about 1.1 million barrels above last year while the deficit versus the five year average will come in around 18.3 million barrels.

The following table compares my projections for this week's report with the change in inventories for the same period last year. As you can see from the table last year's inventories are in directional sync with the projections. If the actual data is in line with the projections there will only be modest changes in the year over year inventory comparisons for everything in the complex.

I am maintaining my oil view at neutral and keeping my bias at cautiously bearish on the Libyan news and as oil flow from Iraq still does not look like it is in jeopardy. In addition the market continues to show signs of having ample supply at the moment. So far there are no signs of any shortfalls of oil supply anyplace in the world.

I am maintaining my Natural Gas (NYMEX:NGN14) view and my bias at cautiously bearish as Nat Gas prices have fallen out of bed and have moved into another lower trading range and one that could eventually lead to a test of the psychological $4/mmbtu level. The August Nymex contract is in a new lower trading range with the support level of $3.95/mmbtu and the resistance end at the $4.23/mmbtu.

Markets are mostly lower heading into the U.S. trading session as shown in the following table.


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