OPEC Steady, Crude Rises

Jim Brown
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OPEC agreed to leave their output target on hold at 30.0 mbpd despite slow demand growth and a weak global economy. The IEA raised their demand estimate to 90.5 mbpd. Prices rose unexpectedly on the news.

OPEC may have kept its official production target at 30.0 mbpd but they are currently producing about 31.0 mbpd because some members are producing over their quotas. That should not be a surprise.

OPEC is happy with crude prices at present given the state of the global economy. They said the global uncertainty could actually depress demand for crude again in 2013. They cited the European debt crisis, Japan's weak economy and America's fiscal cliff. They did say they expected growth from China, India and other emerging economies and from America if the cliff issues are resolved.

The Iranian oil minister lobbied for OPEC to cut production by 2.0 mbpd so prices would rise back into the $120 range for Brent. Iran is losing a fortune every day due to the sanctions that limit their sales and a higher price would benefit them on the oil they still sell.

Crude prices rose because the actual output of 31.0 mbpd was less than expected. Saudi Arabia has reduced production slightly after increasing production earlier in the year to compensate for the tougher sanctions on Iran. Saudi said it decreased production to 9.49 mbpd. The IEA estimates 9.9 mbpd but both numbers are lower than analyst estimates of more than 10.0 mbpd.

OPEC members were again unable to agree on a new Secretary General. There were three candidates with one each from Iraq, Iran and Saudi Arabia. The 12 members must agree unanimously and they could not agree. This is the second time this has happened. After the stalemate they did agree to extend the term of the current secretary for another year. El-Badri is from Libya.

The Iranian candidate was not picked because of the country's problems with the outside world. The Saudi candidate was voted down by Iran for political reasons. The Iraqi candidate was thought to be running for the wrong reasons to promote Iraq, not OPEC.

OPEC predicted demand in 2013 would remain at the current 88.8 mbpd, up from 88.04 mbpd in 2011. However, the IEA released its own upgraded forecast saying 2013 would see demand at 90.5 mbpd, the same level as the IEA claims as demand for the current quarter.

The IEA expects demand for 2013 to rise 865,000 bpd, +110,000 bpd more than their prior forecast. They expect non-OPEC global production to increase +890,000 bpd. They expect the majority of new production to come from the USA if prices remain high and producers can get their shale oil to market. Pipelines and rail capacity is currently limiting how much oil they can produce.

The IEA said their estimate of current OPEC production was 31.22 mbpd and the demand for OPEC oil was currently 29.9 mbpd.

They estimate Iranian production to have fallen to 2.7 mbpd, a drop is -20,000 bpd. Shipments of Iranian oil fell to multiyear lows of 1.07 mbpd in September but recovered in November to 1.3 mbpd as Malaysia, Taiwan and the UAE increased purchases. I understand Malaysia and Taiwan but the UAE is a major ally of the USA. Why are they increasing purchases?

The IEA also said OECD demand declined by -895,000 bpd in Q4 to 13.8 mbpd due to a combination of weak economies and near record product prices.

They also said demand from Asian economies was very robust. China's imports in November were the fourth highest on record.

Crude prices rallied at the open to $87 for WTI on the OPEC decision, IEA forecast and expectations for the Fed to announce QE4. Prices faded into lunchtime but then rebounded to $87.68 after the Fed announcement before fading into the close on profit taking.

In theory oil and other commodities should be poised for a long term uptrend. The Fed said it was replacing Operation Twist with a new program of treasury purchases of $45 billion a month starting in January and continuing indefinitely. This is in addition to the current $40 billion a month in mortgage backed securities.

The Fed is going to basically print $85 billion in new money every month in what could be a multiyear program. This is an historic moment since the Fed already has $2.84 trillion of securities on its balance sheet. Just the additional printing in 2013 will take that to $4 trillion and there are some analysts that believe it could continue through 2014 and $5 trillion. This should scare everyone reading this newsletter.

The Fed is going where the Fed has never gone before. This is uncharted territory and Bernanke even said that in his press conference. He said we don't know what the impact will be from these programs and there may be unintended consequences. Duh!

The number one consequence will be a cheaper dollar. You can bet the dollar will continue sliding lower as the programs progress.

The Fed also said they were going to keep rates low until the unemployment rate returns to 6.5%. Bill Gross said they had calculated that would take 4-5 years of monthly employment gains to reach that level.

If you were planning on buying a house there is no rush. Low rates will be with us for several years to come. The only thing that could disrupt this program would be a sudden acceleration of the U.S. economy. JP Morgan CEO Jamie Dimon said this morning the economy was healthy and ready to rock at possibly a 4% GDP rate in 2013 if lawmakers would solve the fiscal cliff problem quickly otherwise we could be in for some rough sledding.

Wal-Mart's CEO quoted a recent survey saying the week before the election less than 25% of their "core" customers even knew what the fiscal cliff was. Last week that same survey found that more than 75% knew about the cliff and were worried about the economic implications.

That is a dramatic change in sentiment from oblivious to worried about the implications. It shows just how powerful the media can be when they parade the same negative headlines every 15 minutes for a month. Even Wal-Mart shoppers are exposed to the news.

The political theater in Washington continued on Wednesday with all the prominent players getting their face time in front of a microphone. Nothing changed. John Boehner told his caucus not to make any plans for Christmas and the week after. They would be staying in Washington and ready to act on any substantive plan put forth by the president.

On one side we have the falling dollar pushing oil prices higher and the fear over the cliff pushing demand lower. Eventually the cliff will be resolved even if they just kick the various parts farther into 2013 so the new 2013 congress will be forced to handle it. That will remove the shackles from the economy for a few weeks. There will be other hurdles but not until late February and early March when the debt ceiling debate will return for another cliffhanger episode.

With China's economic numbers improving, the IEA bragging about rising demand in Asia, the Greek problem pushed well into the future and the EU about to agree on a banking union we could see the overseas economies begin to recover in Q1 or at least by Q2.

I believe we are on the leading edge of a demand spike that could last several years. I am probably a quarter early but I believe it is coming.

The EIA said crude inventory levels rose by +800,000 barrels last week in contrast to expectations for a seasonal decline of -2.5 million barrels. The increase was caused by a surge in imports of +300,000 bpd. Normally imports decline this time of year. Refinery utilization declined only slightly to 90.4% from 90.6% as refiners try to reduce their crude inventories ahead of the Dec-31st property tax deadline.

Inventory Snapshot

Crude inventories at Cushing Oklahoma rose to 46.8 million barrels and only one million barrels below their record level of 47.78 million back in June. WTI futures expire next week and there is nowhere to store oil if you believe prices are going to rise in January. That means anyone holding a futures contract needs to sell it by next Wednesday. This could produce some extra volatility in the week ahead.

U.S. production rose to a new 15 year high at 6.852 mbpd. If producers had transportation capability out of the shale fields they could produce a lot more.

Crude Oil Inventory Chart

Gasoline inventories rose another +5.0 million barrels after a whopping surge of +7.9 mb the week before and +3.9 mb the prior week. This is the result of the refiners running at 90% utilization and attempting to reduce oil inventories. They want to push that gasoline out into the distribution system and off their books.

Prices continue to fall with another -5 cent drop to $3.35 nationally. Locally here in Denver I have seen it at $3.12. Having lower prices will eventually increase demand.

Even with the monster build in inventories the trend line for this year is still within the five year average. Inventories have pulled to within 1% of year ago levels.

Gasoline Inventory Chart

Distillate inventories have finally begun to build. Inventory levels have risen +3.0 million barrels in each of the last two weeks. They are still -16.6% below year ago levels and still well below the five year average.

The national average for diesel declined -4 cents to $3.99 per gallon and 10 cents higher than the same week in 2011. On the West Coast prices have declined -87 cents since the high in October caused by refinery outages.

Distillate Inventory Chart

The equity markets continue to believe there will be a resolution to the fiscal cliff. The major indexes were up sharply this morning but declined after the Bernanke press conference as cliff worries and profit taking returned.

I believe the market has correctly assumed that any cliff impact will be brief. Nobody actually expects the cliff to be allowed to occur for more than a few days or several weeks if lawmakers actually allow it to occur at all.

This is a self inflicted wound and lawmakers will not want to inflict a similar wound on their careers. They will find a way to keep the tax cuts on the 98% and kick the remaining problems farther into 2013.

I continue to be in buy the dip mode until proven wrong.

Jim Brown

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