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Weak Mornings And Strong Afternoons
Weak mornings and strong afternoons have been the theme for trading this week as so far all dips have been bought, keeping the upward trends intact for petroleum futures. We’re seeing another soft start this morning, but gasoline prices have already bounced two cents off of their overnight lows, leaving the door open for another late-day rally.
The U.S. dollar is ticking slightly higher and U.S. stocks are pointing modestly lower this morning, both of which are likely weighing on energy prices in the early going while the markets read through the $1.9 trillion stimulus plan announced by the incoming administration. It appears that this first round of stimulus is focused on direct payments, unemployment benefits, vaccine programs and other government aid, while another plan in the works for February will have more focus on green(ish) energy projects.
OPEC’s monthly oil market report focused on the rising prices over the past two months, highlighting the impact of monetary stimulus on the world economy in addition to the fundamental supply/demand improvements behind the rally. OPEC’s oil output continued to climb in December, let by gains in Libya, Iraq and the UAE. Libya’s production is now up more than 1.1 million barrels/day over the past three months after a cease fire allowed output to resume. Next month we should see a large decline due to the Saudi’s plan to go alone in dropping output by one million barrels/day to allow the market to stabilize.
One common theme in both the OPEC and EIA monthly reports released this week is a cloudy outlook for 2021 demand as the timing and scope of vaccine rollouts remain uncertain, as do new lockdown requirements as we’re seeing this week in China. The OPEC report also shows that as bad as things have been for US refiners this past year, margins are still much worse in Europe, suggesting we could see more closures there before the pandemic ends.
EPA rumors continue to roil the market for RINs, with an announcement Thursday that the agency would extend compliance deadlines but would not approve a long list of pending small refinery waivers sending RIN values up more than a dime on the day after they’d dropped 20 cents from last week’s highs.
Sellers Come Out In Force
The energy rally seemed to run out of steam Wednesday despite some positive demand estimates from the DOE, and once the upward momentum was lost the sellers have started to come out in force this morning.
A drop in Chinese oil imports in December and a rally in the U.S. dollar are both getting credit for the selling, even though the correlation between the dollar and energy prices has weakened in the past few weeks.
So far the bullish trend lines have not been threatened by the selloff, and we’ll need to see prices drop another 2-3% before they are. Peg the $50 area for WTI as the key technical and psychological pivot point, while RBOB trend support comes in around $1.46 and ULSD at $1.52 to determine if we’re just getting a short term correction or a reversal of the 2.5 month rally.
The DOE’s weekly estimate for total U.S. petroleum demand jumped by more than 2.5 million barrels/day last week (roughly 15%) as drivers got back on the roads and trucks went back to work following the holidays.
Unfortunately for refiners, that tick up in demand was not enough to stop gasoline and diesel inventories from another week of large builds with both products seeing their inventories swell by more than four million barrels, driven primarily by a large drop in exported volumes on the week. Those exports will be a key number to watch in the coming weeks. If we see a quick recovery, than this week’s figures were probably a short term logistical phenomenon, but if they don’t it could be a sign that global demand is suffering once again.
Charts from the DOE’s weekly status report fall below.
Week 2 - US DOE Inventory Recap
Political Theatre In Washington This Week
The bull market continues in energy futures, with several NYMEX petroleum contracts reaching new 11 month highs this morning even as U.S. equity markets pull back, and fundamental reports flash warning signs about weak demand.
As long as the trend-lines hold, the charts favor a run at $55 for WTI in short order, which should pull RBOB futures north of $1.60, and ULSD (which broke $1.60 overnight for the first time since February) towards $1.65.
The entire complex remains overbought, and due for a more substantial correction at some point, but as we’ve seen the past two weeks, the bulls are still eagerly buying any dips and keeping that trend line in place.
Plenty of political theatre going on in Washington this week, and while the news channels are focused on impeachment, the action for energy markets may be coming via the EPA. Yesterday the agency announced a new final ruling on how greenhouse gas emission standards may be set under the Clean Air Act. Opponents see this as another last-minute attempt by the outgoing administration to complicate efforts to change policies by the incoming group, while proponents see this as just another step to limit the red tape in the EPA, which is seen by some as a major victory in the past four years. There is also an unsubstantiated report this week that the EPA may issue new small refinery waivers for 2019 – even as that issue is scheduled to go before the Supreme Court in a few months – which seems to be contributing to the pullback in RIN values.
The API reportedly showed a draw in crude oil inventories of 5.8 million barrels last week, but builds in gasoline (1.9 million barrels) and distillates (4.4 million barrels). The DOE’s weekly report is due out at its regular time today. We may see some re-stocking on crude inventories in the new year, and demand will be watched closely as we just went through our worst couple of weeks for consumption by several accounts since the COVID lockdowns in April.
Energy Futures Erase Monday's Losses
Energy futures have erased Monday’s losses in similar but less dramatic fashion to what we saw in the first two days of trading last week. The rapid recovery keeps the bullish trend intact, and leaves the door open for a rally towards $55 for WTI, and north of $1.60 for refined products in the next week. Cash markets continue to flash warning signs with soft basis values and pipelines with excess capacity both showing that demand is softer than the rally in futures that’s approaching 60% since Nov. 1 might have you believe.
A rally in the U.S. dollar got some of the credit for Monday’s selling, even though the correlation between daily movements in the dollar index and energy futures has shrunk over the past couple of weeks. Case in point, the dollar is still ticking higher this morning, along with oil and refined products. While the currency relationship may be taking a break, the equity/energy correlation is holding strong as the simple factor of when demand will return has a huge potential impact on both asset classes.
Gasoline led the move lower for most of Monday’s session, with a big sell-off in RIN values contributing to the weakness in gasoline. It may seem that RIN values driving gasoline futures action is like the flee on the tail wagging the dog, but it does make financial sense as RIN values directly correspond to refinery margins, which have to adjust higher to offset higher RIN prices, and can slide lower when RINs fall and still end up with the same net result.
News that the Supreme Court would review the case of small refinery exemptions seemed to be the reason for RINs having their biggest sell-off in 10 months, with D6 values falling from 95 cents last week to 75 cents Monday. It also seems that a brief round of short covering in the wake of a lawsuit announced last week may have contributed to the spike and then rapid pullback in RIN values.
Markets Due For Technical Correction
After reaching their highest levels in nearly a year overnight, the energy complex has pulled back sharply in the early going this morning. As has been the case during any selloff recently, COVID case counts and drama in Washington DC are both getting some of the blame. There’s also a case to be made that after a euphoric rally, both energy and equity markets had reached overbought territory and were due for a technical correction.
You might remember we saw a similar large reversal lower last Monday, but buyers stepped in before the upward-sloping trend lines were breached and the bulls took over the rest of the week. It looks like 50 will be a big number to watch this week, with WTI needing to hold above $50 to keep the huge rally intact, and refined products needing to stay above $1.50 to keep the upward momentum going.
Baker Hughes reported eight more oil rigs were put to work last week in the U.S., bringing the total rig count to a new eight-month high, that would still be a record low prior to 2020. The Permian basin accounts for 179 of the 275 total oil rigs active in the country, and made up half of last week’s gain.
The CFTC’s COT report was a mixed bag last week with Money managers adding to net length in RBOB and Brent contracts, but reducing ULSD and WTI positions. Perhaps most notable is that RBOB length held by large speculators is now at its highest level since the start of COVID, even though gasoline demand has dropped sharply in recent weeks. That flow of funds could prove pivotal in the weeks to come, because if the big funds see RBOB as a long term bet and are willing to ride out the bumps until the vaccine rollout gets business back to “normal” then any dip like today might be a good buying opportunity. On the other hand, once those funds decide the party is over, the liquidation of that length could create a snowball effect to the downside.
RIN values pulled back for the first time in a couple weeks Friday after the Supreme Court agreed to review last year’s ruling by a circuit court that limited the ability of the EPA to grant small refinery exemptions. The hearing won’t be until April, and a ruling may not come until the summer by which point it’s possible the entire RFS could be changed depending on how the new congress prioritizes its agenda for the year. Another interesting note on this case, the Plaintiffs (HollyFrontier & Wynnewood Refining Co) have both announced plans to convert units to Renewable Diesel production, which means if the supreme court rules in their favor, it may end up helping their competitors more than themselves.