Saudi/Russian Output Freeze Not A Cut
1. Saudi Arabia and Russia reached an agreement on freezing production
2. Other participation up in the air
3. Iran generally rejects any output cut
4. Natural gas prices seeing no lift; support at $1.68
Table covers crude oil and principal products. Other products, including residual fuel oil and “other oils” are not shown, and changes in the stocks of these products are reflected in “Total Petroleum Products.” Statistics Source: Energy Information Administration “Weekly Petroleum Status Report” available at www.eia.doe.gov
The Matrix
The announcement that Saudi Arabia and Russia agreed to a production freeze was met largely with indifference by oil markets. There were so many holes in the deal it may have been dead on arrival anyway.
The agreement was missing many other producers. Only Qatar, Venezuela, and the UAE had signed on as well. Iraq was silent as was Libya. Moreover, the deal was really a freeze on production; no reductions in output were proposed. The freeze was based on January output and January production was near record levels. Saudi Arabia indicated this was “the beginning of a process in which [producers] would assess the market and decide on other steps.”
The elephant in the room, of course, is Iran. Freed from sanctions that had reduced exports, Iran has indicated its intent to ramp up output to recover market share. Iran is currently producing about one million barrels daily below capacity and pre-sanction levels. The country has been making contrary statements about the arrangement since its announcement.
Other challenges to the arrangement are high global inventories and slack demand. The slowdown in Chinese demand has been well documented. Less attention has been paid to Brazil, where the economy has suffered as well. In January, Brazil’s imports of refined products fell 74.5 per cent year-over-year as the economy falls deeper into its worst recession in many years. In particular, net imports of gasoline fell to zero in January compared with the previous January. This has helped back up gasoline supplies elsewhere because Brazil has been a major gasoline consumer. It helps explain the unusual weakness in the gasoline crack spread this year.
The other elephant in the room is the American fracklog. There are about 4,000 wells drilled but not completed – the fraklog – in the U.S. oil well inventory. Any reasonable advance in price will create the conditions to start production from these wells, effectively capping a rally in crude oil. Some analysts put the recovery price for shale wells around $50. At such a price, effective hedges can be established, allowing new production irrespective of future price falls.
Despite all these caveats, the freeze agreement is an important change in the situation. Heretofore, Saudi Arabia has been thought of as being able to handle low prices, its huge sovereign wealth believed adequate to wait out its competitors. This assertion must now be in question.
The freeze also highlights the importance of the American shale producer, ironically now oil’s swing producer.
Supply/Demand Balances
Supply/demand data in the United States for the week ending February 12, 2016 were released by the Energy Information Administration.
Total commercial stocks of petroleum increased 3.4 million net barrels during the week ending February 12, 2016.
Builds were reported in stocks of RBOB, fuel ethanol, distillates, and residual fuel oil. Draws were reported in stocks of K-jet fuel, other oils, and propane.
Crude oil supplies in the United States increased to 504.1 million barrels, a build of 2.1 million barrels.
Crude oil supplies increased in two of the five PAD Districts. PADD 1 (East Coast) crude oil stocks increased 0.5 million barrels and PADD 2 (Midwest) stocks grew 2.3 million barrels. PADD 3 (Gulf Coast) crude oil stocks decreased 0.4 million barrels and PADD 4 (Rockies) stocks fell 0.1 million barrels. PADD 5 (West Coast) crude oil stocks were unchanged from the previous report week at 58.2 million barrels.
Cushing, Oklahoma inventories were unchanged at 64.7 million barrels.
Domestic crude oil production decreased 51,000 barrels daily to 9.135 million barrels per day.
Crude oil imports averaged 7.919 million barrels per day, a daily increase of 0.795 million barrels.
Refineries used 88.3 per cent of capacity, an increase of 2.2 percentage points from the previous report week.
Crude oil inputs to refineries increased 338,000 barrels daily; there were 15.848 million barrels per day of crude oil run to facilities. Gross inputs, which include blending stocks, grew 399,000 barrels to 16.042 million barrels daily.
Total petroleum product inventories saw an increase of 1.3 million barrels from the previous report week.
Gasoline stocks increased 3.0 million barrels; total stocks are 258.7 million barrels. Demand for gasoline increased 81,000 barrels per day to 9.203 million barrels daily.
Total product demand increased 720,000 barrels daily to 19.742 million barrels per day.
Distillate fuel oil supply increased 1.4 million barrels. National distillate demand was reported at 3.482 million barrels per day during the report week. This was a weekly increase of 320,000 barrels daily.
Propane stocks decreased 4.3 million barrels to 70.5. million barrels. Current demand is estimated at 1.681 million barrels per day, an increase of 125,000 barrels daily from the previous report week.
Natural Gas
According to the EIA:
Working gas in storage was 2,706 Bcf as of Friday, February 12, 2016, according to EIA estimates. This represents a net decline of 158 Bcf from the previous week. Stocks were 532 Bcf higher than last year at this time and 555 Bcf above the five-year average of 2,151 Bcf. At 2,706 Bcf, total working gas is within the five-year historical range.
The withdrawal from storage exceeded market expectations slightly. Nonetheless, prices reacted bearishly. After the data were released, natural gas prices fell to $1.85. This was a new low for the current down draft. Prices topped out at $2.495 early in January and have shown little interest in rallying since.
With this new low, the path is clear for a test of support at $1.684. If that level is broken, major support around $1.53 lies below. This level was last traded in 1999.
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