The Petroleum Economics Monthly

Transcription

1 The Petroleum Economics Monthly Philip K. Verleger, Jr. Volume XXIX, No. 6 June 2012 Structural Changes Make Crude Inventories Irrelevant (Publication Date: 7/30/2012) 2012, PKVerleger LLC. All rights reserved. ISSN Reproduction of The Petroleum Economics Monthly in any form (photostatically, electronically, or via facsimile), including via local- and wide-area networks, is strictly forbidden without direct licensed permission from PKVerleger LLC. Contact Dr. Verleger at 540 Fox Run Dr, Carbondale, CO or phil@pkverlegerllc.com.

2 Structural Changes Make Crude Inventories Irrelevant Philip K. Verleger, Jr. PKVerleger LLC Disclaimer: Although the statements of fact in this report have been obtained from and are based upon sources that PKVerleger LLC believes to be reliable, we do not guarantee their accuracy, and any such information may be incomplete or condensed. All opinions and estimates included in this report constitute the judgment of PKVerleger LLC as of the date of this report and are subject to change without notice.

3 Table of Contents Summary... 1 Section I. Marketers and Crude Oil Prices... 3 Section II. What Does One Do with Strategic Stocks When They Are No Longer Needed? Section III. Price Forecast Glossary Statistical Appendix List of Figures Figure 1. Global Crude Inventory Levels Calculated from Monthly Production and Consumption Statistics, Figure 2. Distillate Fuel Oil Inventories Held in PADD I Commercial Facilities, Weekly Data, January 1986 to July Figure 3. Distillate Fuel Oil Inventories Held in PADD I, Weekly Data 2010, 2011, 2012, and Normal Range... 9 Figure 4. Heating Oil Futures Prices as a Percentage of Spot Month, 2010, 2011, and Figure 5. Daily Variation in NY Harbor Barge Distillate Spread, Figure 6. Total Weekly US Distillate Fuel Oil Stocks in 1984, 1985, and Figure 7. CFTC-Reported Merchant Short Positions vs. PADD I Distillate Fuel Inventories, January 2008 to July Figure 8. Net Positions of Money Managers in Distillate Heating Oil Futures and Options, Weekly Data 2010, 2011, and Figure 9. Net Positions of Index Investors in Heating Oil and WTI Contracts, Figure 10. US Petroleum Product Inventories Held Privately, Weekly Data, in 2009, 2010, 2011, and Figure 11. US Crude Oil Inventories in Private Storage, Weekly Data, in 2009, 2010, 2011, and Figure 12. US Crude Oil Inventories Held in Private Facilities vs. US Petroleum Product Stocks Held Privately, Figure 13. Actual Crude Prices vs. Prices Predicted by PKVerleger LLC Netback Model, Figure 14. Net Position of Index Investors in RBOB and Heating Oil Futures, June 2010 to May List of Tables Table 1. Price Forecast i

4 Summary This issue of The Petroleum Economics Monthly focuses on the bidirectional process that determines oil prices. The linkage is not well understood, particularly by those writing on oil markets at financial institutions or at consulting firms such as PFC Energy, the HIS Group, Cambridge Energy Research Associates, and the Energy Intelligence Group. These groups believe oil producer decisions or, for the more sophisticated, global demand determines crude prices. In their view, product prices follow crude prices, that is, product prices fall if OPEC increases crude supply beyond the market s demand and rise if the organization limits output. This view describes half of the market. The old school analysts ignore the other half, however, the part dominated by firms that distribute product to consumers. This failure to account for the market s distribution or tertiary side is a mistake, one that at minimum can damage reputations and at worst cost billions. Here we explain the critical role played by the marketing and distribution parts of the oil business. Of particular importance are the times when these firms run down inventories. In such instances, crude prices can rise significantly (twenty to forty percent) even when oil producers push larger and larger crude volumes into refinery tanks. We are approaching such an event today. Current analyses by the International Energy Agency and others show a substantial rise in global crude stocks. Crude prices are increasing in spite of this. One publication attributes the stock rise to a demand increase outside the OECD. Seemingly lacking any understanding of oil market economics or other explanations for the higher prices, its editors opined that the crude stock build is occurring outside the OECD and thus apparently not having a downward influence on global prices. Elsewhere in the same publication, though, they unknowingly provided a clear explanation for the surprising rise in prices and inventories. Specifically, they noted that the Manchester UK airport has suffered three jet fuel outages this year. Those events demonstrate that marketers and distributors have chosen not to hold product inventories at this time. Their actions have led to a situation where product markets are backwardated, product stocks have fallen below normal levels, and product prices remain high. The high prices pull up spot crude prices as swing refiners rush to get crude to meet short-term demand. The key phrase in the last paragraph is marketers and distributors have chosen not to hold stocks. Consultants at PFC and HIS, as well as banks, may be dumbfounded by such a statement. Most people who follow the market seem to believe it is strictly a top-down business. In their view, they assume distributors follow orders from the CEOs of Shell, Exxon, or other large companies, adding to stocks when told and cutting back when so advised. This view is understandable. Much of the oil industry once mimicked the military, with the enlisted personnel (the marketers) obeying commands from above. The military analogy, though, has not applied for at least thirty years. The large companies have sold their distribution networks. ExxonMobil has no such assets in the US and is leaving Japan. The large firms also cut off financial support to their distributors, support that allowed the latter to build stocks. In short, they amputated their marketing and distribution arms. When that happened, the marketers stopped taking orders. 1

5 Today, the marketing and distribution sector in the US and to an extent in Europe is a capitalintensive, profitable, and, most importantly, independent business. Marketers have billions if not trillions in assets, and distributors make their own decisions regarding inventories. In the context of the current market, the marketing and distribution sector seems to be minimizing stock holdings aggressively. Their actions mark a return to the practice that once dominated Mobil s trading room: Keep Inventories Low and Lean (KILL). Section I, Marketers and Crude Prices, examines the impact of low inventories on product and crude prices. We suggest that backwardation will cause traders to bid up crude prices in the fall, just as they did in High product prices may not be sustained in An economic slowdown could cut product demand, reducing prices in early 2013 just as in Alternatively, the resumption of economic growth or an OPEC action to rebalance the market by promoting crude inventory liquidations (as happened in 1999) could support the higher prices likely by the end of this year. (Section I begins on page 3.) Section II, What Does One Do with Strategic Stocks When They Are No Longer Needed, returns to the question of strategic crude reserves. The United States now has seven hundred twenty million barrels of crude in its Strategic Petroleum Reserve (SPR). These stocks are no longer needed. Sooner or later and probably sooner a presidential administration will realize the SPR barrels are worth between $70 and $100 billion. At that point, we will likely see an effort to dispose of some or all of the oil. Oil sales, though, would put downward pressure on prices, harming US and OPEC producers. An alternative solution, suggested here, would be to transfer the oil to countries seeking to build their own strategic reserves. These nations, particularly China, are buying oil for storage for just this reason. Their purchases put upward pressure on prices. We argue that an oil transfer (for cash) would avoid a market disruption. (Section II begins on page 19). The report concludes with a price forecast. 2