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Oil’s Next Tug Of War

Bakken

- WTI and brent suffered more losses this week despite two strong excuses to rally. Firstly, EIA data delivered the type of numbers that bulls have been waiting for all year with a 6.4m bbl crude oil draw and 2.9m bbl gasoline draw while refiner demand printed an all-time high of 17.5m bpd. Secondly, OPEC floated news that it is considering additional output cuts of 1%-5%. Sentiment-wise we think it’s critical to note that the market ignored positive news flow to print lower daily lows in three of the last four trading days.

- There was a general feeling of oil bulls throwing in the towel this week evidenced by outflows of more than $280m in the USO, a deepening put-skew in options markets (more on that later,) 10-month lows for oil producer equities (despite global equities touching record highs) and massive downward revisions of price forecasts from banks. Goldman Sachs, SocGen and Barclays were among the firms offering negative outlook revisions but nobody changed their tune more sharply than JP Morgan who cut their 2018 WTI forecast from $53/bbl to $42/bbl.

- WTI’s $44-$55 YTD range has largely been defined by OPEC cuts mitigating downside risk while US production gains capped upside moves. Going forward we see WTI trading in a $45-$53 range with aggressive US inventory draws limiting downside risk while OPEC + Russia skepticism play an increasingly important role in restraining strength in the market.

- OPEC and US production data drove bearish concerns again with Bloomberg estimating a jump in the cartel’s May output of about 300k bpd m/m while US production climbed to 9.34m bpd for a 21-month high. Libya was the primary driver of OPEC’s output jump with a 210k bpd improvement to 760k bpd while Nigeria added 100k bpd and exported cargoes from its Forcados terminal this week for the first time since October. Libya’s production briefly jumped over 825k bpd last week and OPEC exports hit 25.4m bpd in May which was their highest mark of 2017. On a more bullish note Saudi leadership stated a plan to cut US-bound exports to 1m bpd in the coming months down from 1.2m bpd YTD.

- Away from the oil market US economic data suffered a modest setback this week with a May jobs number of +138k which missed estimates to the downside by about 50k. FOMC voters still sound mostly positive on the labor market, however, and odds of a rate hike at the Fed’s June 14th meeting stand at 93.5% via Fed fund futures.

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Falling Brent Spreads and Falling Freight Rates- What???

Prompt brent spreads continued their free fall this week with help from an Argus report bemoaning a backlog of unsold WAF cargoes and OPEC export data which was far from bullish. While the bearish WAF cargo landscape is difficult for us to quantify, a quick look at Dirty VLCC indexes suggests that physical markets are not in danger of making a large shift to the dark side in the near future as demand for floating storage drops. The global benchmark Saudi > Japan dirty VLCC rate has fallen by more than 34% in the last month while WAF > China is lower by more than 20%. Bloomberg estimates that global floating crude oil stocks have dropped by 11m bbls over the last two weeks.

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Brent m1-m5 was in full hemorrhage mode through Friday falling to -1.07 for a 66-cent loss over the last two weeks and a $1.46 loss over the last three months. In terms of news flow the return of Nigeria’s Forcados terminal, Libyan production +800k bpd, a sharp jump in Iranian exports and the backlog of unsold WAF cargoes were driving bearish sentiment and lead to aggressive selling from trading houses in the US and Europe. In diff markets Dated Brent also fell against the first month brent swap trading -84 cents on Friday afternoon for a 24-cent loss over the last two weeks.

WTI spreads also came under pressure this week but outperformed Brent with help from another steep draw in Cushing and record high US crude exports at 1.3m bpd. WTI Q17/Z17 traded to -71 on Friday yielding 14 cents contango / month but has a distinctly more bullish chart than its brent counterpart. Nevertheless we see limited upside risk for WTI spreads at their current levels given the relentless climb in US output opposite already-high levels of inventory. In diff markets the WTI-Brent Z17 contract traded to a 3-week high at -2.35 as Cushing inventories fell to 64.8m bbls for a 5m bbl drop over the last seven weeks. Related: Will Self-Driving Oil Rigs Hit The Market Before Self-Driving Cars?

US crude production maintained its relentlessly higher path this week printing over 9.34m bpd for a 21-month high. Output is now +914k bpd from its low print in July and within 268k bpd of its all time high. US crude oil rigs have jumped to 733 representing a 25-month high and the merchant/producer gross short between NYMEX WTI and ICE Brent was basically flat w/w near 2.1m contracts. In terms of trading flow the SCS options desk saw good interest to buy Cal ’18 $45 puts this week from producers and dealers which helped drive an aggressively bearish skew in the options market.

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Put skew returns with vengeance!

Crude oil volatility followed an unusual path this week with implied vols falling in at-the-money and upside risk while wingy downside risk rallied to its highest levels on +7 weeks. As of Thursday afternoon WTI N17 50d vol implied 29% vol while 25d calls implied 28% and 25 delta puts priced at 31% vol. This marked a significantly different skew than May 11th when ATM vol for WTI N17 priced at 33% and we had a virtually flat 25d reversal with 25d puts trading at a ½ vol premium to 25d calls. WTI’s three week low print of $47.73 on Wednesday also pulled new short positions into the market and forced short-put covering with moved 10d puts to +37% for a 2-month high. 20-day realized volatility was near 34% on Thursday which could pull prompt vols higher in the coming days.

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COT positioning looks… average

Last week’s round of COT data showed decent sized net buying in NYMEX WTI and ICE Brent contracts from hedge funds which was entirely due to short covering as prices rallied. The two contracts enjoyed a combined net length increase of about 83k contracts w/w (+18% w/w) and a reduction in net length of 84k contracts. Hedge fund net length and gross short positions for WTI and Brent are both within 10% of their 2yr averages making the spec position look well balanced.

Hedge funds were also net buyers of NYMEX RBOB and Heating Oil futures and options this week bringing the net short in RBOB to 2,700 while Heating Oil flipped from a net short of 4k to a net long of 11k. Like crude oil, both product positions held by funds look unremarkable. There was some interesting action in ETF flows with the USO losing a total of $280m last week- its largest w/w outflow since December. The fund has seen outflows of $322m over the last two weeks as crude oil optimism for 2017 has faded among fast and real money managers alike.

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EIAs show strongest data of 2017

- Wednesday’s stats revealed 2017’s largest w/w crude draw thanks to strong refiner demand, record high crude oil exports, moderating imports and strong refined product demand.
- On a more bearish note US crude output continued its relentless climb and topped 9.34m bpd for the first time in 21 months

US crude stocks registered a 6.4m bbl w/w draw bring stocks to 510m bbls which is roughly flat y/y. PADD II stocks fell 824k bbls (+5% y/y) while PADD III inventories fell 4.5m bbls and are lower y/y by 0.5%. Cushing stocks fell 747k bbls to 64.8m bbls (lower by exactly 5m bbls over the last 7 weeks) with help from record high US exports of 1.3m bbls while imports fell to 7.99m bbls. US crude imports are still higher by about 7% y/y over the last month following recent spikes into both PADD II and PADD III.

US refiner demand was also a critical component of the week’s large crude oil draw posting a record high of 17.51m bpd. Overall refiner demand is higher y/y by 5.6% over the last month lead by y/y increases of 7% in PADD II and 8% in PADD III while PADD I demand is lower y/y by 7%. Refiner utilization at 95.0% is higher y/y by 3.5% and continues to depress crack margins with gasoil/brent falling to $8.40/bbl while the WTI 321 dropped to $17.60/bbl.

US gasoline data was also more bullish than expected beginning with a headline inventory decline of 2.9m bbls. Overall gasoline inventories are lower y/y by 0.7% with PADD II stocks +1% y/y and PADD III stocks -2% y/y. PADD IB inventories enjoyed a sharp draw of 2.3m bbls this week and are lower y/y by 1.6% over the last month. Demand also continued to improve this week after a mediocre start to the year with domestic consumption improving to 9.8m bpd (+1.1% y/y) while exports climbed to 641k bpd for a y/y increase of 71%.

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Prompt RBOB futures touched a 3-week low on Friday with a print of $1.5545/gl. RBOB flat price crosses under its 50 DMA and 100 DMA to the downside but still and is within about 4 cents of its 200 DMA at $1.5345. Spread markets also continued their bearish trend this week with RBOB U17/Z17 trading down to +15.3 cpg. Related: New BC Government Could Jeopardize Canadian Oil Exports

US distillate supplies jumped 394k bbls w/w and are lower y/y by 2%. Regionally, PADD IB inventories fell 426k bbls w/w and are +1% y/y, PADD II stocks fell 385k bbls and are +3.7% y/y while PADD III supplies added 357k bbls and are -9% y/y. On the other side of the balance sheet distillate demand continues to impress with domestic consumption printing 4m bpd (5% y/y) while exports at 1.25m bpd are +6% y/y.

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BONUS CHARTS

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By SCS Commodities Corp.

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