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Oil Traders Remain Bearish… For Now

Trading

Crude oil moved lower to begin the week on three key trends. On the geopolitical stage there was a (tiny) thaw in US/Iran relations after Iran’s foreign minister mentioned an openness to talks with the US. On the macro stage Donald Trump mentioned he might add tariffs to Chinese goods and on the weather stage hurricane Barry didn’t do long term damage to US Gulf production. The result was Brent trading near $64/bbl which was comfortably in the middle of the $61-$66 range it’s occupied in the last month. Spread markets traded at strong premiums in the front of the curve but option markets still imply that traders are more concerned with downside protection than upside risk. Taking a wide-angle view, the market seems too well supplied to enjoy a sharp move higher (as evidenced by the IEA’s recent estimate the oil market was oversupplied by about 500k bpd in 2Q’19) while OPEC+’s cut discipline and geopolitical strife in Iran and Venezuela are doing a good job of managing downside risk. We’ll likely need major news on the US/China or US/Iran front to generate a large move in oil prices and until then we have little to focus on other than central bank moves and weekly economic and supply/demand data.

Meanwhile equity markets seemed to be telling a more interesting story with the US S&P 500 climbing to all time highs on a mix of last week’s dovish Fed signaling and a Goldilocks attitude from traders that the global economy is not too hot to warrant hawkish central activity but not too cold to drive a recession and weak earnings. On the central bank side, US Fed Chair Jerome Powell was adequately dovish in his remarks last week to fuel another move higher in global stocks by giving a somewhat downtrodden view of the global economy. The Chairman was sure to emphasize the slack in the US labor market to an extent that investors felt extra assurance in their moves to buy risk assets. On a similar theme, China’s weakest GDP print in more than a decade (+6.2%) somehow buoyed confidence in the contradictory themes that A. the PBOC could add stimulus to strengthen short term performance and B. maybe 6.2% growth in China isn’t so bad after all. On a more positive note, China did recently report better than expected y/y retail sales and industrial production growth of +8.4% and +6.0%, respectively.

Looking ahead, we’re trying to synthesize the news flow and market action in the last week and must say we think last week’s IEA report citing chronic oversupply flew somewhat under the radar and could increasingly drive the market in the coming weeks if things are quiet on the US/China or US/Iran fronts. The most gloomy statistic (in a report full of them) was a forecast of OPEC demand at 28.0m bpd which is a full 2m bpd higher than the group’s current production. The gloominess is consistent with the trend in the US where refiner demand is lower by an incredible 240k bpd so far in 2019 despite consistent +2% GDP growth. While it might not affect oil prices in the short term, this bearish demand conundrum has confounded us so far this year and apparently the IEA thinks the trend is here to stay through 2020.

Quick Hits

Brent

Gasoline

- Brent crude fell from the $67 last week to near $64 this week as Trump upped his China rhetoric, hurricane Barry made only a modest impact on US Gulf Coast crude production and Iranian leadership hinted a willingness to engage in talks with the US.

- We think the Iran development could be particularly important to watch going forward as the country’s exports have been driven to just 400k bpd in June.

- Earlier in our note we focused on the bearish demand picture for oil highlighted by the recent IEA report which sees crude inventories ballooning well into 2020. In spite of this, Brent spreads have moved sharply higher over the last two weeks with the prompt 1-month brent spread moving from 20 cents backwardation to 40 cents backwardation. It appears physical traders still see some strength in the market at least through the summer.

- An even more pronounced move has been occurring in US gasoline spreads where the prompt contracts is currently trading at a 6-cent premium to the second month contract.

- Hedge funds were small net sellers of NYMEX WTI and ICE Brent last week cutting net length in WTI from 161k to 159k contracts while ICE Brent was cut from 248k to 244k. Combined net length held by speculators in the two main derivatives contracts is lower by 43% since April.

- As we mentioned earlier, supportive comments from the US Fed chair last week pushed S&Ps to a new record above 3,000 points. European stocks also strengthened with the Euro Stoxx 50 back near its 2019-high at 3,520. In Asia markets seemed less impressed with the Shanghai Composite still about 9% below its April high at 2,940.

- Bond markets have had a curiously bearish run despite the recently supportive comments from the US Fed on rate cuts. The US 10yr yield has moved from 1.95% to 2.11% over the last two weeks while the US 2yr yield has moved from 1.73% to 1.85%. It looks to us like bond traders had have already priced in dovish Fed actions last this month and could be looking ahead to a brighter economic outlook.

DOE Wrap Up

Crude

WTI

- US crude inventories registered a surprisingly large draw last week of 9.5m bbls. Overall US crude stocks currently stand at 459m bbls and are higher y/y by about 13% over the last four-week period.

- The US currently has 26.5 days of crude oil supply on hand.

- Cushing stocks fell by about 300k bbls to 52.2m.

- Domestic production had a slight uptick last week moving from 12.2m bpd to 12.3m bpd.

- Refiner demand improved by about 150k bpd last week to 17.44m bpd and is lower y/y by about 2% over the last four weeks.

- On the bright side for refiners, US margins continued to trade at healthy levels this week with the WTI 321 crack yielding about $24/bbl.

- US crude imports fell by 280k bpd last week to 7.3m bpd while exports moved higher by 60k bpd to 3m bpd.

- Gasoline stocks fell for a fourth straight period last week this time with a 1.5m bbl draw to 229m. US gasoline stocks are lower y/y by 4% over the last month.

- Domestic gasoline consumption + exports printed 10.5m bpd last week and has averaged 10.37m bpd over the last four weeks which is higher y/y by about 90k bpd.

- The US currently has 23.7 days of gasoline supply on hand which is lower y/y by 1.3 days.

- Distillate inventories jumped 3.7m bbls last week to 130.5m and are higher y/y by about 9% over the last four weeks.




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