Expiration Jitters

Jim Brown
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Brent declined -1.50 intraday then rebounded +2.50 as traders raced to cover positions ahead of contract expiration at the close. This is just one more sign of confusion in the broader market.

The EIA inventory report this morning surprised all around. Crude inventories declined by -624,000 barrels compared to expectations for a +1.2 million barrel gain. Gasoline inventories rose by 2.6 million barrels and analysts were expecting a -1.1 million barrel decline. Distillates spiked +2.3 million barrels compared to expectations for a +475,000 barrel gain.

The rise in gasoline and distillates helped push prices lower after the report but the unexpected decline in crude helped to lift prices as the day progressed.

Helping to support prices was news that U.S. production declined by -48,000 bpd from the record level of 7.37 mbpd in the prior week. Several U.S. producers warned in their earnings there would be declines in production in Q2 as a result of maintenance and pipeline connection issues.

Inventories at Cushing rose slightly to 49.7 million barrels ahead of the May WTI contract expiration next Tuesday. Cushing has reported some pipeline issues as well with feeder pipelines from various shale locations. There is nothing serious but temporary outages from a couple days to a couple weeks on low volume pipelines.

I wrote last Wednesday we should expect to see a spike in gasoline inventories now that all the refineries have switched over to the summer fuel blends. This week we saw a +256,000 bpd increase in production that helped increase inventory levels but there were other factors at work. Imports declined by -109,000 bpd and gasoline demand declined by -104,000 bpd.

The continued slowing of demand despite the arrival of spring remains troubling. More people join the work force every day from graduations and immigration but gasoline demand continues to fall. Auto sales are holding around 15 million per year and only about 60% of the old cars they replace are scrapped. That give us a net gain of 6.0 million vehicles per year but gasoline demand is falling. The four-week moving average for demand is now -3.1% below its year ago level. There is something in the macroeconomics that analysts are not seeing. Higher taxes, lower wages, high unemployment, high gasoline prices or the combination of all four appears to be limiting driving.

Some analysts believe the Great Recession forced people to move closer to work, develop home based businesses, drive less, shop close to home, take fewer vacations and use higher mileage cars to stretch their available dollars. This is another symptom of the great deleveraging as a result of the recession.

Gasoline Demand Chart

Distillate inventories rose by +2.3 million barrels and it was the fifth consecutive weekly gain. Distillates are now above year ago levels after falling well below the five-year average late last year and declining most of the first quarter. Distillate production increased by +108,000 bpd but imports fell by -125,000 bpd to negate that increase. Demand fell by 87,000 bpd. By all rights we should not have had that strong an increase in inventories so I suspect there was an accounting blip from week to week.

Refining capacity rose to 88% on its way to the 90%+ range ahead of Memorial Day. They should be accelerating production of gasoline ahead of the official start of the summer driving season.

Green squares are multiyear highs. Yellow is multiyear low. Orange is multi month high. The number of active gas rigs fell to another 18 year low at 350 last week.

Inventory Snapshot

Oil Inventory Chart

Gasoline Inventory Chart

Distillate Inventory Chart

OPEC Monthly Oil Report

OPEC just released its monthly report and it has a lot of extra data and tables this month since OPEC is meeting at the end of May to discuss production quotas for the rest of the year. Read the full report HERE (PDF) OPEC said production rose by 280,000 bpd in April to 30.46 mbpd. The price they received for their oil declined -$5.39 to $101.05 for the OPEC basket of various crudes.

Global oil demand in April was 89.7 mbpd. That is expected to rise by 800,000 by the end of the year. Non OPEC supply is expected to rise +1.0 mbpd to 54.0 mbpd. OPEC NGLs will rise +200,000 bpd to 5.9 mbpd. This leaves a demand for OPEC crude oil at 29.8 mbpd and a decline of -400,000 bpd from year end 2012.

The table below shows the production amounts for the various OPEC countries. Nigeria and Venezuela saw declines in production in April. Nigeria is fighting sabotage from the MEND rebels and one of the major pipelines is shutdown to repair damage from the rebels and from thieves that cut into the pipeline to steal oil.

Venezuela is declining in production because the government has taken all the cash out of PDVSA and they cannot maintain enough operating rigs to offset the normal production declines from aging fields. The new president is going to continue the Chavez social program handouts so there will not be any big jump in production in the months ahead.

I would note that the April 2013 production from each country is not that much different than the 2011 average in the first column. Everyone except Qatar and Algeria seem to be maintaining production levels. Since OPEC has been under the same quota for the last two years there is no reason to increase production. They all have a limited amount of excess capacity so the levels should not change materially.

OPEC Production by Country

In the chart below the bars are OPEC production with the scale on the left and the wavy line is global production with the scale on the right. Note that global production is basically flat with the March 2012 levels despite the hundreds of billions spent on exploration. The USA and Brazil are about the only countries with a significant increase over the last year.

Global Oil Supply

OPEC believes demand will rise to nearly 91.0 mbpd by the end of 2013. With demand weighted to the second half of the year the average will be 89.66 mbpd but the end demand is the key. The 90.87 mbpd is the highest demand ever. It will require all the new OECD production plus a slight rise in demand for OPEC production to 30.55 mbpd.

The current expectations for 2014 are for another increase in demand of 1.0-1.5 mbpd to push total demand well over 92.0 mbpd.

OPEC believes demand from developed countries (OECD) will decline by -390,000 bpd in 2013. Nearly all of the +1.2 mbpd in growth comes from emerging economies with China and India the biggest increases.

OPEC Global 2013 Demand Estimates

The increased supply from non-OPEC nations looks like the table below. The America's are expected to increase production by 810,000 bpd. The rest of the world is only expected to grow production by +170,000 bpd. That is the entire world other than OPEC nations. The Middle East, Asia Pacific and Europe are all expected to see production decline.

Non OPEC Supply Increases in 2013

OPEC warned that various countries are currently experiencing negative economic trends. For instance Russia has seen economic growth decline for four consecutive quarters and that is expected to carry over into 2013. Russia's GDP in Q4 was +2.4% and industrial production this year has declined. The Ministry of Economic Development forecast growth of only +0.1% in February, down from +1.6% in January.

India's GDP has been in a prolonged slide but did show an uptick in Q4 after they undertook a series of reforms to create new jobs and address the fiscal deficit. After the measures take full effect they expect GDP growth to return to 6% in 2014.

Russian GDP Chart

Indian GDP

We are well acquainted with the slide in the Chinese economy. They may be the hottest economy on the planet but they are still in decline mode. There has been a flurry of downgrades for GDP estimates for China in recent weeks, some as low as 7.0%, but there are still estimates of 8% as well. China has two million people moving to the cities every month so they have a built in increase in economic activity in simply supplying housing and jobs for the new city dwellers. The lure of the country farm life is gone. It is hard work and new generations of Chinese consumers want to move to the bright lights of the city. Unfortunately this is creating traffic jams of people and vehicles.

China's demand for oil is currently rising about 2.1% per year, down from +7%. The stimulus programs China put in place to halt the decline in the economy are not working. The decline has slowed but it still exists. The fears of a hard landing are moving back into the headlines. With China and India the biggest areas of oil demand growth the growth of the economy is critical. If it is allowed to decline further we will see more oil on the market and lower prices. Longer term China will remain the driver of demand as they build to manufacturing 20 million cars a year by 2020. We would just rather they maintained a growth trajectory rather than a decline trajectory.

Chinese GDP Chart

OPEC is expecting world GDP to be 3.2% in 2013. GDP in OECD countries 1.2%, USA 1.8%, Japan 1.1%, Eurozone -0.5%, China 8.0% and India 6.0%. However, global industrial production is expected to be less than +2%. Industrial production consumes oil and refined products. Until global production recovers the increase in oil demand is going to be very slow.

Global Industrial Production

Some other tidbits from the report:

Canada is the top oil exporter to the U.S. at 2.8 mbpd. Saudi Arabia second, Mexico third and Venezuela fourth at 579,000 bpd. Canada was the only exporter that increased volume with everyone else declining.

U.S. imports declined -870,000 bpd to 7.7 mbpd over the last year thanks to the increase in production from shale fields. However, refined product imports increased by 164,000 bpd or +8% over last year.

U.S. crude imports from OPEC countries averaged 2.9 mbpd.

Russia was the number two exporter of refined products to the U.S. behind Canada. Russia accounted for 20% of our refined product imports with Canada at 31%.

Dollar and Commodities

The dollar spiked intraday to a new ten-month high and that is causing havoc with commodities. That was a major part of the intraday dip in crude prices. Gold lost -$33 and closed under $1400. The dollar is going to continue to cause trouble with earnings for multinational companies.

There was negative economic news today from China, the eurozone and Germany. The industrial production for the U.S. for April fell -5% and the biggest decline since last August. The Empire State Manufacturing Survey fell unexpectedly into contraction territory at -1.4 compared to estimates for a rise from 3.1 to 5.0. New orders and back orders were both in contraction territory. The producer price index for April declined a whopping -0.7% on the headline number. That was due to a drop in crude prices but the core rate only posted a minor +0.1% gain.

The markets should not have been up today except that bad news is good news. Bad economic news means the Fed will continue the current QE program and the liquidity will keep driving the markets. This will eventually end badly.

Dollar Index Chart

Gold Chart


The markets struggled today. They ended with a gain but it was a fight. The Dow opened with a -40 point loss before running up to 15,300. When it tagged that round number a two hour slide began to briefly erase the +90 point gain but a last minute buy program at 3:PM saved the day.

We are in some thin atmosphere at these levels and it has been a record 179 days without a 5% decline on the S&P.

The rising dollar will continue to be a challenge. Eventually we are going to have a market dip that last more than a couple hours but for now the trend is intact. Be very cautious of being "too long" and having too many positions. When the decline appears it may not be orderly and making decisions on dozens of positions at one time with the market in turmoil is a good recipe for losing money. Be patient, wait for a decent dip to add new positions.

Jim Brown

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