Done Going Up

Jim Brown
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WTI prices shot up to $112.24 this morning before collapsing back to close at $109.50. This could have been the climax spike where existing shorts capitulated and new sellers appeared.

Unless you live in a cave you know about the impending Syrian attack and the potential ramifications that could send oil prices to the moon. The $8 spike in WTI over the last week is the result of those worries. It would appear to me the attack is now baked into the market.

We know that Iran has said it will attack Israel if the U.S. attacks Syria. Syria said it would attack Israel if the U.S. attacked. Turkey, Saudi Arabia, Kuwait and Iraq are all on the potential target list for retaliation as well. This is causing military planners to work 24/7 to cover all the potential problem areas.

The U.S. has provided extra Patriot anti-missile batteries to Turkey. Israel has moved additional Iron Dome and Archer anti-missile batteries into position on the Syrian side of the country. Saudi Arabia has installed Patriot batteries to protect sensitive oil facilities.

With the global oil supply already down -2.7 mbpd because of unplanned outages the loss of any oil facilities, especially in Saudi Arabia, would be catastrophic and oil prices would surge significantly.

Now, for the good news. The odds of any of that happening are next to zero. Iran knows the U.S. would welcome any provocation as an excuse to crush the Iranian air force. Israel has warned it will respond with extreme force to attack. The U.S. will not want Israel to attack Iran so the U.S. will likely step in the middle and do the attacking if it comes to that.

Syria may not have any retaliation capabilities after the U.S. attack starts. Since the U.S. is expecting an attempt the attack will probably begin with carpet bombing of critical areas by B2 stealth bombers. The first sign of an attack on Syria will be the bombs going off and that will be too late for Syria to react in force. They may get a few missiles off but not very many.

Lastly, who really gives an enemy a 2-3 week advance notice they are going to destroy your missile capability? That is what the U.S. has done for Syria. Once the nerve gas attack was discovered it was common knowledge the U.S. and a few allies were going to pound Syrian military targets.

If you were the Syrian high command what would you have been doing over the last couple of weeks? You would have been moving high value assets to secret locations to prevent them from being destroyed. We know from experience that Saddam moved high value weapons into schools, hospitals, mosques and even orchards in an attempt to hide them from satellites or keep them from being bombed because of the collateral damage it would cause to those properties.

Syria has had two weeks to prepare. U.S. bombs are likely headed for empty warehouses and storage depots. However, you can also bet that military planners have been watching satellite photos and data from drones and spy planes and they know where a lot of those weapons went. Also, you can't hide 350 fighter planes from prying eyes. There are only so many airports in Syria and you can bet they have been constantly monitored.

The real key to the future of oil prices is not the attack on Syria but the retaliation attacks on surrounding countries. If those happen then prices could spike higher. If the retaliation posturing was just a bluff then prices are going to plunge 48 hours after the attack ends. I am going with the bluff scenario because retaliating against other countries will only bring harsher attacks down on Syria. They are better off just hunkering down and taking their punishment and then continue fighting the civil war without WMDs.

Some of the price decline today was probably related to the surprise build in crude inventories. The spike to $112 was at 1:AM and 30 minutes after the inventory report the price had declined to $109.85.

Crude inventories rose +3.0 million barrels to 362.0 million. This was caused by a huge rise in imports of +423,000 bpd to 8.4 mbpd and a decline in refinery demand. U.S. production rose to another 18-year high at 7.61 mbpd. Cushing inventories fell for the sixth week from 37.4 mb to 36.6 mb.

Gasoline inventories declined -587,000 barrels and the smallest amount in three weeks. They fell -4.0 million barrels the prior week. Gasoline imports rose +297,000 bpd. Gasoline demand fell -169,000 bpd.

Distillate inventories declined by -316,000 barrels after rising +900,000 barrels in the prior week. Consumers are starting to think about topping off their heating oil tanks for the winter and demand rose +230,000 bpd.

Refinery utilization rose slightly to 91.3% but we are only a week or two away from a sharp drop in utilization as they begin the fall maintenance cycle. The summer driving demand will end this weekend and the refiners will start planning their switchover to the winter fuel blends.

(Inventory Snapshot guide: Green squares are multiyear highs. Yellow is multiyear low. Orange is multi month high. Pink is multi-week highs. Blue is multi-week low. 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

Gasoline prices have not yet reacted to the spike in crude prices but you can bet there is a bump on the way. I filled up in Denver today for $3.36 for regular and I was pleasantly surprised. The national average is $3.55 and rose only a penny over the last week. The lower than expected average price is the result of a -23 cent decline in gasoline prices in California since July 22nd. Refinery issues there have been resolved and inventories are back to normal. Also, the EIA reported the demand in California has been declining.

I wrote several newsletters ago about the expected peaking of oil production in the Bakken over the next couple of years despite the rapid addition of new wells. The problem is the rapid decline rate and the limited number of "fairway" wells that are in the sweet spot for maximum production. Wells outside the fairway produce less to start and decline faster.

ASPO published a study by Dennis Coyne on the expected future production of the Bakken and the Eagle Ford. Coyne also came to the same realization as others that the Bakken would peak soon. He expects the Bakken to peak at 1.01 mbpd in 2016 and then decline to 240,000 bpd by 2039. That assumes an addition of 1,800 wells per year from the current base of around 5,000. Total producing wells would increase +500% to 27,000 by 2038 but production would decline by -75% over the same period.

The same study of Eagle Ford wells saw peak production of roughly 1.2 mbpd in 2015 with 7,000 active wells. The number of wells would rise to 25,000 by 2040 but production would decline to 160,000 bpd.

There are currently 185 rigs in the Bakken and 224 in the Eagle Ford drilling for oil. There are another 43 rigs in the Eagle Ford drilling for gas.

The study found the active Eagle Ford wells were declining at the rate of -76% per year for oil and -60% for gas. That is slightly faster than the Bakken decline rates.

Those market reporters predicting the U.S. would be energy independent by the end of the decade have obviously not looked at the facts. This study came to almost exactly the same conclusions as multiple studies before them.

Libya said oil exports were going to increase last week. They were wrong. Apparently the strike is spreading westward and exports have declined to only 200,000 bpd and the lowest rate since the civil war in 2011. That is down from 640,000 in early August, the 1.2 mbpd post war high and 1.6 mbpd prewar levels. Libyan oil is highly sought after light crude. Protests over pay and allegations of corruption spread to fields operated by ENI SpA and Repsol SA. Other companies already seeing declines were COP, HES, MRO and RDS.

Societe Genrale (SocGen) said Brent prices could spike to $150 if the attack on Syria spilled over into the surrounding countries. Since the Arab Spring the sectarian volatility in the region has been growing. In Iraq more than 65 people, mostly Shiites, were killed in explosions on Wednesday. More than 1,000 were killed in July alone. If the Syrian attack produces an upsurge in sectarian violence or an upsurge in anti USA reactions we could see oil production facilities attacked by civilians as a way to get back at the USA.

Analysts believe Saudi Arabia could increase production to handle outages between 500,000 to 2.0 mbpd. More than that would cause a significant price hike. If Saudi facilities were damaged the sky is the limit on prices.

Iran and the IAEA have scheduled a new meeting on September 27th to talk about Iran's nuclear program. This will be the first meeting since the new president Hasan Rouhani has been in office. The IAEA said the meeting would focus on the Parchin test facility where they believe Iran has tested nuclear triggers over the last several years. Iran has refused to let the IAEA tour the site and that has produced an impasse on the nuclear issue.

Over the last year Iran has bulldozed buildings on the site and carried off hundreds of trucks of topsoil in an effort to hide their past test efforts. Over the last month they even went so far as to blacktop the entire area of several acres even though there is nothing else around and there is no traffic or cars to park. The IAEA said access to the site now is probably worthless since soil samples would be hard to obtain and would be contaminated. Iran has postponed the inevitable so long they have finally succeeded in neutralizing the site.

The IAEA said it was a shame since it robbed Iran of a perfect opportunity to prove their nuclear program was for peaceful purposes. If there was nothing to hide at the site they could have allowed access several years ago to prove there was nothing there. The complete demolishment of the location is a smoking gun of sorts but they successfully hid the evidence.

Hurricane Update

No storms on the horizon for the next 7 days.


The market rebounded from the new two month lows set on Tuesday but the rebound was lackluster and failed at visible resistance. The initial Syrian worry trade is no behind us with the next drop likely if there is any retaliation from Syria or Iran after the attack. Assuming that does not happen we could see another rebound but that is likely to fail as we head into September and face the debt ceiling battle, budget fight and the FOMC meeting. We need to get past those hurdles before the market is likely to begin a Q4 rally.

Jim Brown

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