Analysis by Dr. Nancy Yamaguchi

Both within and without the energy business, there is an intense daily focus on crude oil prices. The current regime of low prices is a function of global oversupply. There is widespread agreement that the supply overhang now is lessening, and that supply and demand will be moving into a closer balance by the end of the year. But accurate, up-to-the-minute, measures of supply and demand do not exist. Analysts must scramble to find other reliable indicators and bellwethers, and one of these is the level of oil in inventory. Changes in crude and product inventories are viewed as good indicators, though they are not an exact science.

With the world seemingly awash in oil, additions to stockpiles are interpreted as a continuation of the supply overhang, and this tends to suppress prices. Withdrawals from stockpiles are interpreted as reductions in supply, or increases in demand, or both, and this tends to elevate prices.

Last week, the American Petroleum Institute (API) forecast a crude stock draw of 1.1 million barrels, and other analysts predicted stock draws of 2.8 million barrels to over 3 million barrels. Traders responded quickly, and prices rose. Subsequently, the US Energy Information Administration (EIA) released the official data, and it contradicted the other forecasts, showing instead another stock build of 1.3 million barrels. Prices quickly retreated.

Today, WTI prices crossed the almost-mystical threshold of $50/barrel, a price level not seen since July 2015. A large part of the crude price rally was caused by the news of a sizable drawdown of US crude stocks. This week, the API estimated a crude stock draw of 5.5 million barrels. This time, the EIA data corroborated, for the most part, the API numbers, reporting a crude stock draw of 4.2 million barrels. This signaled another step closer to supply-demand balance, and prices rose immediately. In fact, we noted in yesterday’s issue of FUELSNews that if the EIA’s numbers had exceeded the API’s, we believed that prices would climb past $50/b yesterday. As it was, even though the official EIA numbers did not surpass the API estimates, WTI prices flirted with the $50/b mark, hitting a high of $49.75/b.

The figure below shows the additions/(drawdowns) in US crude stocks, in million barrels, on a weekly basis so far this year. Crude stock draws occurred in only four weeks out of the twenty shown here. In some weeks, as much as eight to ten million barrels were stockpiled.

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It comes as no surprise, therefore, that US crude inventories were fast approaching their all-time high of 545 million barrels. As the next figure shows, for the week ended May 1, 2016, inventories stood at 543.4 million barrels. The path of the yellow line tracing 2016 inventories is determined by the additions/(drawdowns) in the first figure. The next week ended May 6th brought a draw of 3.41 million barrels. The week after, ended May 13th, brought a build of 1.31 million barrels. And now the data for the most recent week ended May 20th shows a draw of 4.23 million barrels. This back and forth suggests a closer supply-demand balance.

As a cautionary note, however, the market factors currently at play on both sides of the supply-demand equation are still in flux. Some of the supply outages, for example, are temporary. As a second cautionary note, a week or two of crude inventory drawdown of a few million barrels does not erase the fact that over half a billion barrels remain in storage.

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To explore why crude stocks can be used as a bellwether for the market, the following figure compares the weekly addition/(drawdown) in crude stocks (million barrels,) with the weekly change in WTI values (dollars per barrel,) with a five-day delay. We have added the five-day delay to account for the date the EIA releases its information on crude inventories. That is to say, the crude stock draw reported for the week ended May 20th was released on May 25th, so the price corresponding with the May 20th stock movement data is the May 25th price. In this way, it is easy to see how the WTI prices track the stock movements.

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In conclusion, crude stockpiles appear to be receding from the historic high point, and as this is occurring, crude prices are trending up. If we accept the idea that the weekly movements in crude stocks are a key bellwether of the overall crude supply and demand balance (as the author does,) then the current movements indicate that the market is inching toward a better supply and demand balance. If supplies expand once again and crude stockpiles begin to swell, this will indicate that the supply overhang is increasing, and we may expect crude prices to weaken once again.

 

nancy-yamaguchi-2013Dr. Nancy Yamaguchiis an author and petroleum industry expert specializing in the advanced analysis of energy markets. Dr. Yamaguchi is the President of Trans-Energy Research Associates, Inc. focusing on a wide spectrum of fuel related issues such as economics and the environment. She possesses a strong interest in global oil industry, including supply, demand, trading trends, as well as transport, refining, product blending, alternative and reformulated fuels, product quality and price behavior. Dr. Yamaguchi can be reached at nyamaguchi@trans-energy.com.