The historic discontent from the price of oil and the supply and demand fundamentals is either signaling that the global economy is going into a deep recession or, if you’re an optimist, is an easing of inflation that will bring in an open runway for a soft landing for the economy and our friends at the Fed. And while you know that I am an optimist, the problem we have is that the market is trading like we have a massive oversupply and crashing demand. Yet, the truth is that we are in a world where demand is exceeding supply despite concerns about demand from the Chinese economy and Europe.
In fact, if you consider the latest snapshot of US oil supply from the American Petroleum Institute (API) you might be worried not about a price crash but an oil shortfall. The API showed yet another 2.79 million barrels led by a draw of 2.6 million barrels in the Cushing, Oklahoma delivery point. According to oil man Tim Dallinger, that means that we are, maybe, only one draw away from hitting tank bottoms and could be the reason the refiners are paying a premium for crude because Cushing is running dry. Even as oil trades near a three-year low in price and refiners reportedly are paying a premium over futures for crude, one must ask why the futures are the most disconnected from the physical market maybe ever.
Is it because the market is sensing impending doom for the economy and another hopeful prediction of peak demand or is it because the market senses impending doom for the economy?
If you look at sentiment Zero Hedge pointed out that, “Commodities are pricing in the hardest landing this century: oil sentiment is worse than at the peak of the global financial crisis, Europe’s sovereign debt crisis and the global covid lockdowns.”
The question we must ask is are things really that bad. Hedge funds must think so because they have amassed a massive, short position of almost biblical proportions.
Crude oil reporter John Kemp when commenting on the extreme bearishness that has gripped the oil market wrote, “Abandon all hope, you who enter here” – inscription above the Gate of Hell in Dante Alighieri’s Inferno.”
He pointed out that hedge funds and other money managers sold the equivalent of 117 million barrels in the six most important futures and options contracts over the seven days ending on September 3.
The combined position was reduced to just 93 million barrels, the lowest for at least a decade, according to reports filed with ICE Futures Europe and the U.S. Commodity Futures Trading Commission. Fund managers were sellers across the board, including NYMEX and ICE WTI (-66 million barrels), Brent (-38 million), European gas oil (-9 million), U.S. diesel (-3 million) and U.S. gasoline (-1 million). And in the US oil product supply is not exactly oversupplied. The API reported that US gasoline inventories feel last week by 513,000 barrels and distillates rose by just 191,000 barrels.
If today the EIA informs us with those numbers, it will still show that US crude oil inventories are about 5% below the five-year average for this time of year. Total motor gasoline is about 2% below the five-year average for this time of year and distillate fuel inventories are about 10% below the five-year average for this time of year. It’s not just the supply and demand that that the market seems to be ignoring it also seems to be ignoring the risks to supply. We still have ongoing outages in Libya that continues to draw down on the global sweet well supply and Hurricane Francine has shut in production.
The Bureau of Safety and Environmental Enforcement reported that it has activated its Hurricane Response Team and is monitoring offshore oil and gas operators in the Gulf of Mexico as they evacuate platforms and rigs in response to the storm. Based on data from offshore operator reports submitted as of 11:30 a.m. CDT yesterday, personnel have been evacuated from a total of 130 production platforms, 35% of the 371 manned platforms in the Gulf of Mexico. Production platforms are the offshore structures from which oil and natural gas are produced and transported to shore. Unlike drilling rigs, which typically move from location to location, production facilities remain in the same location throughout a project’s duration.
Personnel have been evacuated from 2 non-dynamically positioned (DP) rig(s), equivalent to 40% of the 5 rigs of this type currently operating in the Gulf. Rigs can include several types of offshore drilling facilities including jackup rigs, platform rigs, all submersibles, and moored semisubmersibles. A total of three DP rigs have moved off-location out of the storm’s path as a precaution. This number represents 15% of the 20 DP rigs currently operating in the Gulf. DP rigs maintain their location while conducting well operations by using thrusters and propellers; these rigs are not moored to the seafloor, so they can move out of harm’s way in a relatively short time frame. Personnel remain on board and return to the original location once the storm has passed.
From operator reports, BSEE estimates that approximately 23.55% of the current oil production and 26.56% of the current natural gas production in the Gulf of Mexico has been shut in. After the storm has passed, facilities will be inspected. Once all standard checks have been completed, production from undamaged facilities will be brought back online immediately.
The disconnect between oil futures prices and the tight supplies of oil could turn out to be a very dangerous combination. If the market stays well supplied the drop in oil prices is welcome as it will be a boom for the economy. On the flip side, if artificially low prices cause a shortage, we could see a price spike that could cause a shock to the economy and drive us into a recession. In the meantime, it is the hedge fund flows that will drive us. If the hedge funds run for cover at the same time than watch out. If not, enjoy the ride or the financial crisis or whatever this historic disconnect is going to tell us.
The EIA, while still predicting a supply deficit, thinks everything is going to be hunky dory as demand growth slows. Bloomberg reported that US oil demand growth is forecast to plateau this year, in the latest bearish indicator for the market, according to the Energy Information Administration. The agency sees US consumption holding steady at 20.3 million barrels a day, it said in a monthly report. That’s a shift from last month, when the EIA forecast demand would grow by 1% year-over-year. Nevertheless, global consumption is seen growing by 1 million barrels a day, putting the market in supply deficit this year, due to decreased output from OPEC and its allies.
Natural gas prices are getting a boost from the lack of production, but the key thing will be the aftermath of the storm. How many power outages there will be and will the storm cool things off.
We will never forget. God Bless our heroes of September 11th. Remember to pray for them and their families and for our country. Let us never take for granted our freedom and our rights. God Bless America.