Tale of Two Reports

Jim Brown
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I wrote on Tuesday night about the API inventory reports and the unexpected gains in crude. I reminded everyone that the EIA report on Wednesday would be the one to watch because they tend to disagree. They were 100% opposite.

The API report on Tuesday showed that crude inventories rose by 1.725 million barrels in the past week. This was contrary to expectations for a 2 million barrel decline. The EIA report on Wednesday morning showed that inventories actually fell by -1.5 million barrels and more inline with estimates.

The EIA report was 180 degrees from the API report and the news sent oil prices rising again to trade at $79.85. At nearly $80 this is nearing the range where it will have an impact on the economy. Most economists believe that $85 oil is where the economy begins to restrict its operations because of higher fuel prices.

The problem is that we don't yet have higher fuel prices relative to the price of oil. I filled up today for $2.38 per gallon in Denver. That is positively cheap in my mind after paying nearly $5 a gallon in 2008.

The refiners are the ones getting squeezed just like they did in 2008 when oil went to $147. They could not sell gasoline competitively because consumers were balking at paying the real price. Crack spreads went to zero and in some cases went negative. That means it costs them more to produce the gasoline and diesel than what they could sell it for.

We have nearly two million barrels of refinery capacity offline in the U.S. simply because there is no demand and it costs more to make gasoline at those plants than the current sales price. There are various factors that go into a finished gallon of gas including oil prices, transportation, storage, by product disposal, additives, equipment costs, emissions controls, labor, taxes, etc. For some refineries all those additional costs make producing gasoline for $2.30 a gallon no longer profitable. Will they come back online when demand returns, nobody knows. It depends on the strength of the demand.

The problem with the current decline in crude inventories had been the drop in imports. Those rose last week from 7.7 mbpd to 8.1 mbpd. That could be just one more two million barrel tanker making port on a Friday instead of a Saturday to cause the shift in the numbers. That was the first weekly rise in imports in more than a month.

The current level of crude oil in inventory is 326 million barrels. That is the lowest level since January but they are still 2.3% above year ago levels. Crude levels have now declined for four consecutive weeks by a total of 13.8 million barrels. That is $1.1 billion dollars in oil and that is the real problem in my view.

Refiners have to pay property taxes on any oil in inventory on December 31st. Refiners delay incoming deliveries where possible to avoid the 3% to 5% tax on inventory at year-end. By putting off deliveries for a couple weeks those refineries could save more than $50 million in taxes.

I am betting that imports will surge after January 1st and I plan to trade that surge because it will depress prices. The flaw in this plan is the rising security premium for Iran and the falling dollar. The dollar is falling on Wednesday night and nearing a new two-week low. If the dollar declines we will probably see a muted decline in oil despite an inventory rise.

Stay tuned!

Jim Brown