Thank Ben Bernanke Tomorrow

Jim Brown
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When the market explodes out of the gate on Thursday you can thank Bernanke for the new highs in the market. His comments after the evening speech have powered the S&P futures to a +13 point gain. Crude prices are nearing $107 and the dollar collapsed.

The FOMC minutes at 2:PM showed that about half of the committee wanted to fully end QE by the end of 2013 rather than next July as analysts expected. The market reacted to those minutes with some high volatility but the Nasdaq and the Russell 2000 succeeded in setting new closing highs. The Dow declined fractionally and the S&P was flat ahead of the 4:10 PM speech from Bernanke.

Traders expecting Bernanke to try and walk back his comments from the post FOMC press conference were rewarded with a major reversal of fortune. Bernanke completely contradicted his prior comments and said the weak economics, weak employment and very low inflation were evidence the Fed needs to maintain "existing" monetary policy for the foreseeable future.

He said "Both the employment side and the inflation side are saying that we need to be more accommodating." Also, "Moreover, the other portion of macroeconomic policy, fiscal policy, is now actually quite restrictive... Put all that together, I think you can only conclude that highly accommodative monetary policy for the foreseeable future is what's needed in the US economy."

Since Bernanke sets the tone for policy of the FOMC his comments completely erased the negative connotations from the FOMC minutes.

The dollar imploded after the Bernanke comments. The dollar index closed at 84.04 before the comments and declined -1.6% in after hours. Interpreting the comments he said the economy was weak and QE would continue for the foreseeable future. That means cheaper dollars and higher prices for commodities. Gold is up +$33 in overnight trading.

Dollar Index Chart

Gold Chart - After Hours

Crude prices were already soaring with a two-year high at $106 on continued tensions over Middle East events and the potential for tighter regulation on oil by rail. The Canadian oil train wreck is now thought to have killed as many as 50 people and this could force regulators to put a halt to rail deliveries or at least sharply increase safety regulations. The train was loaded with oil from the Bakken and was headed to eastern Canada refineries. The unmanned train containing 72 oil tanker cars had been stopped at a staging point and the crew disembarked. The train began rolling on its own and gained speed going downhill to about 63 mph and causing it to derail in the center of town about 18 minutes later and subsequently catch fire and explode.

WTI Oil Chart

Crude prices were already rising after the weekly inventory numbers showed another huge decline. Crude inventories declined -9.9 million barrels after falling -10.3 million the prior week. Imports and production both rose but not enough to offset rising refinery demand.

U.S. production rose +134,000 bpd to 7.4 mbpd and a new 18-year high. Crude imports rose by +118,000 bpd to 7.53 mbpd but that is still about 1.0 mbpd less than we saw just four weeks ago at 8.44 mbpd. Inventories at Cushing fell sharply from 49.7 to 47.0 million barrels. This is continuing proof on how much oil is being shipped by rail in the U.S. rather than by pipeline to Cushing. Distillate inventories rose +3.0 million barrels. The reason here is obvious. Demand declined -607,000 bpd while production increased +193,000 bpd. I believe these numbers are questionable since that would be a -15% decline in demand from the average of about 4.0 mbpd. There is no way demand declined that much in one week. This has to be a blip in the numbers that will be corrected in the coming weeks.

Refinery utilization rose +0.2% to 92.4%. That is the highest rate so far this year. We should see the rates hold over 90% for the next six weeks.

(Inventory Snapshot guide: Green squares are multiyear highs. Yellow is multiyear low. Orange is multi month high. Pink is multi-week highs. The number of active gas rigs at 350 is an 18 year low. Oil rigs at 1,412 is an eight-month high. Crude oil at 397.6 mb is the highest since 1931.)

Inventory Snapshot

Note that the decline in crude inventories corresponded exactly to the normal historical trend.

Crude Oil Inventory Chart

Gasoline Inventory Chart

Distillate Inventory Chart

Tropical storm Chantal was all bark and no bite. The storm dissipated on Wednesday into a disorganized wave of heavy rains with wind gusts to 40 mph. The threat to the Gulf of Mexico is theoretically over but there is always the chance it could regain strength over the warm waters of the Gulf. Upper level wind flows are not conducive to hurricane formation at this time.

Hurricane Outlook Map

Also helping to push crude prices higher was a report from OPEC saying oil demand in 2014 would rise by 1.0 mbpd compared to the +800,000 bpd demand growth in 2013. Total demand would rise to 90.7 mbpd. They warned the forecast assumed the economic weakness in Europe and China faded and economies improved. OPEC issues a monthly demand report and this was not materially different from the prior month. However, the headlines always seem to push the oil prices around. Apparently part time traders don't understand the long term outlooks and are instigated by the headlines.

What most of the various stories did not say was that OPEC believes the demand for their crude will decline in 2014 by -300,000 thanks to rising shale production in the USA. OPEC demand is expected to decline to 29.6 mbpd. OPEC produced 30.38 mbpd in June. Production outside OPEC is expected to rise by +1.1 mbpd to 55.1 mbpd. OPEC said that production improvement was "associated with a high level of risk" from political, technical and price related dangers.

The price of WTI at $106.49 is less than $2 away from Brent at $108.37. This rise to parity is causing havoc in the oil trading community. Major brokers like Goldman Sachs had large trades based on the spread between the two contracts and Goldman said they closed their trade for a loss. The spread rose as high as $23.44 last year.

The oil train wreck should be a good thing for the Keystone pipeline. Shipping oil by rail is much more dangerous than shipping by pipeline. Currently about 675,000 bpd is shipped from the Bakken each day on 10 trains heading for various refineries on the coasts. This compares to the 20,000 bpd shipped from the Bakken in 2009. Valero and Marathon have a large number of rail cars on order to accelerate their ability to ship crude by rail. With the spread narrowing to less than $2 on Brent the rail shipment effort may be losing its allure.

The American Petroleum Institute (API) claims more than 99.9% of rail shipped crude arrives at its destination without incident. In the last 10 years the railroads suffered 129 incidents with rail shipped crude. However, the amount of crude shipped has quadrupled in just the last three years and is set to grow by another 250,000 bpd in 2014.

The low accident rate is likely to be ignored by lawmakers because it makes good headlines to pass laws restricting big oil companies and increasing safety standards for the public good.


The market shook off news this morning that China's exports in June declined -3.1% compared to consensus estimates for a RISE of +3.7%. Imports declined -0.7% compared to estimates for a +6% increase. China's biggest shipyard asked the government for a bailout due to rapidly falling orders. Offsetting the weak economics was news that China's auto sales rose +9.3% to 1.4 million units in June. That was in line with estimates.

The IMF cut its global growth forecast again from +3.3% to +3.1% and the fifth straight estimate cut.

These data points suggest the weakness in the global economy is accelerating. The U.S. market is ignoring the data. Earnings for the S&P are now expected to rise only +2.9% in Q2 with revenue increasing only +1.5%. Hardly a day passes there is not a big earnings warning or earnings miss.

The markets remained unconcerned with the Dow and S&P approaching historic higher. The Russell 2000 small cap index is at a new high as is the Nasdaq Composite. The S&P futures are up +14.50 points at 10:PM tonight. What is wrong with this picture?

Eventually fundamentals will matter again but for now everyone is focused on QE. When it ends we will have a market disaster but like Alfred E. Newman always said, "What, me worry?"

Crude prices typically decline in August-September and then rebound in the fall as winter heating oil demand increases. Investors should wait for the normal end of summer weakness to add long positions.

Jim Brown

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