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Oil Bears Are Taking Over Control

Shale Permian

Brent crude fell back below $59 this week as the world moved on from Saudi production outages and back into its increasingly familiar negative macro funk. Oil is now trading below where it was prior to the drone strikes on Saudi production facilities and we remain amazed that this event- which knocked out 5.7m bpd of supplies- has failed to have any sort of lasting bullish impact on crude prices. For now it seems the negative global economic factors impacting the oil market are simply too strong to allow for any sort of upside risk even in the face of extraordinary unplanned supply outages.

On the macro side, US Dollar strength and poor manufacturing data were the main bearish factors impacting crude markets this week. In economic data the US ISM printed 47.8 for September for its second straight contraction-territory mark and its lowest point in ten years. Further east, China’s August PMI came this week with yet another contraction territory thud at 49.8. Both data points increased anxiety among traders who are anxiously awaiting a trade deal between Washington and Beijing with little reason for optimism.

On the currency side, the US Dollar Index rallied to its highest mark in more than two years as the US Federal Reserve has been slower to cut rates than many of its peers. As a result, President Trump continued to lambast his appointed Fed Chair on Twitter arguing that the strong US Dollar is hurting US manufacturers. He's certainly not wrong that a strong currency can act as an economic headwind, but we still think he may be making it harder on Fed leadership to lower rates because the central bank needs to demonstrate independence. Regardless of where interest rates go from here, the strong US Dollar continues to act as a significant bearish weight on crude.

Despite oil’s woes over the last two weeks, we have seen two bright spots which bulls may be able to hang on to. First, in the US the EIA reported that US crude production actually fell in the month of July by 276k bpd to 11.8m bpd. The gusher of US oil has served as one of the key pieces in 2019’s bearish puzzle and any cracks in this trend will serve as relief for bulls.

Second, Brent spreads continue to trade at strong levels with the prompt 1-month differential trading near 70-cents backwardated while the 6-month strip between the December ’19 and June ’20 contracts is yielding more than 30-cents backwardation per month. This is a reasonably strong structure which shows physical traders may be feeling some strain from tight supply/demand balances. This shouldn’t seem too surprising given the combination of a historic attack on Saudi oil supplies, Iranian exports being squeezed to 0 bpd and OPEC+ hard at work on coordinated supply cuts.

Nevertheless, the bears are clearly back in charge of the market with Brent down more than $12 from its post-Saudi attack high print near $72. Given the historically bullish news flow the oil market has seen over the last three weeks opposite bearish price action, it’s hard to imagine what sort of headline could sustainably push crude prices higher.

DOE Wrap Up

• US crude stocks jumped 2.4m bbls last week to 419.5m. Inventories are higher y/y by 6% over the last four weeks which gave another bearish shock to a market that was positioning for a significant shortage of crude following drone stocks on Saudi Arabia’s largest production facility.

• The increase in inventories was at least in part due to a new record high in crude production of 12.5m bpd. The mark represented a 100k bpd w/w increase. Domestic crude production has averaged 12.25m bpd since July due to the continued torrent of crude coming from West Texas shale assets.

• The US currently has 24.6 days of crude oil supply on hand and has averaged 24.2 days of supply available over the last month which is higher y/y by 8%.

• Last week’s increase in crude stocks was also curious due following the sharp decrease in net imports. Traders imported 6.4m bpd of crude last week and exported 3.0m bpd giving net imports of 3.4m bpd. For reference, net imports had been averaging 4.1m bpd since July.

• Inventories in the Cushing delivery hub increased for the first time in June last week. Cushing crude stocks jumped by 2.3m bbls to 41m bbls.

• US refiner demand took another seasonally expected dip last week falling 200k bpd to 16.5m bpd. Unfortunately, US crude demand remains massively lower versus 2018. Inputs have averaged 17.0m bpd over the last four weeks which is lower y/y by 350k bpd.

• In refined product markets, US gasoline inventories increased by 520k bbls last week to 230.2m bbls. Gasoline stocks are higher by 2% y/y over the last month as demand remains lackluster.

• US distillate inventories began their seasonal draws last week falling 3m bbls. Distillate stocks are lower y/y by 2%.

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