An unexpected deeper contraction in U.S. manufacturing activity could signal weaker diesel demand, helping stocks – which are below the five-year average for this time of year – rebuild ahead of the higher winter demand for distillates.
Diesel demand in Europe is already weak due to slow industrial activity, which could ease the tight market and help Europe go through the winter with less anxiety and concerns.
While potentially weak demand for distillates could ease the market crunch, it doesn’t bode well for the economy in developed countries and, down the line, for their demand for oil.
If U.S. manufacturing reverses the declining trend soon, demand for diesel, which is typically correlated with the pace of the economy, could begin to rise again.
U.S. Manufacturing Rebound Delayed
But for now, the manufacturing sector is weak—weaker in October than most analysts had anticipated.
Economic activity in the manufacturing sector contracted in October for the 12th consecutive month, the Institute for Supply Management said last week in its latest Manufacturing ISM Report On Business. The contraction was more than what analysts had expected, and the index registered 46.7% in October, 2.3 percentage points lower than the 49% recorded in September.
In September, the readings—while still showing contraction—were more optimistic than they were in the spring and summer. Observers were cautiously optimistic that the manufacturing sector could be on the brink of starting a new expansionary cycle after 11 months of contraction. Such expansion could have boosted diesel consumption too, considering the fact that diesel tends to be closely related to manufacturing and transportation of goods.
However, the October ISM data was sobering—not only did the sector show contraction, but it was deeper than expected.
“Of the six biggest manufacturing industries, only one — Food, Beverage & Tobacco Products — registered growth in October,” said Timothy Fiore, Chair of the ISM Manufacturing Business Survey Committee.
Continued weakness in U.S. manufacturing could dent some diesel demand. Yet, with middle distillate inventories below the seasonal average, this could ease parts of the diesel and heating oil market. [if !supportLineBreakNewLine][endif]
Conversely, if U.S. manufacturing strengthens in the coming months, distillate inventories could draw faster and potentially stock up another round of inflationary pressures on the economy.
For the week to October 27, the EIA estimated an inventory decline of 800,000 barrels in middle distillates, with production averaging 4.6 million barrels daily, also down on the week. These numbers compare with an inventory draw of 1.7 million barrels for the previous week when production averaged 4.7 million barrels daily.
For the week to October 27, distillate fuel inventories were about 12% below the five-year average for this time of year.
“US inventories of crude and middle distillates are still significantly below normal. In total almost 50 m b below the 2015-19 level. This is an uncomfortable situation ahead of the winter which keeps the market in a partial bullish grip,” Bjarne Schieldrop, chief analyst commodities at bank SEB, wrote in a note on Monday.
Fuel prices in America have been falling in recent weeks, with the price of diesel declining less than gasoline prices, where seasonally lower gasoline demand and the switch to winter-blend gasoline have been pushing prices lower by around $0.30 per gallon in one month.
The national average price of diesel has fallen 6.6 cents in the last week and stands at $4.38 per gallon—93 cents lower than one year ago, according to fuel-savings platform GasBuddy.
According to Bloomberg, implied U.S. demand for distillates has dropped over the past few weeks below the average for this time of year.
U.S. distillate fuel oil stocks fell last week due to higher net exports compared to the previous week, while implied demand fell by 387,000 barrels per day (bpd) to 3.7 million bpd, consultancy FGE said in a Friday report.
Total U.S. diesel inventories are now 22 million barrels below the 2015-2019 average, but 4.5 million barrels above last year’s levels, FGE notes.
Globally, middle distillate inventories fell for the fifth week in a row, dropping by 1 million barrels, according to FGE.
But diesel demand in Europe’s biggest economies is weak as industries wobble.
In France, Europe’s second-largest economy, on-road diesel demand plunged in September in a sign of weakening industry and transportation of goods.
“The sharp decline in French road transport diesel demand reflects this increasing pressure on the French economy and slowdown in industrial activity and transportation of goods,” Emma Howsham, research analyst at consultancy Wood Mackenzie, told Bloomberg.
In Germany, the largest European economy, oil demand is weak and set to see the world’s second-biggest decline this year after Pakistan.
Weak manufacturing and economies in Europe will weigh on the demand for fuels, while U.S. manufacturing activity in the coming months could determine whether diesel consumption in America will start rising again.
By Tsvetana Paraskova for Oilprice.com