Monday, February 23, 2009

Spot Life CL Mar 09 pt 2 (entire)

The fundamental reported causes for price were almost all dire for demand, as nation after nation reported dismal economic performance. The news came both from the developed world--which consumes about half of the world's oil requirement--and from the developing world, which was where nearly all the additional incremental demand had been coming from in the last five or so years. This was most especially true of China, where the China Electricity Council announced that power consumption grew by 5.23% in 2008, after growing by 14.8% in 2007. (5.23% seems considerable, but analysts appear especially dubious of the numbers coming out of Beijing, and apparently all of that demand was added in the household consumption sector, as opposed to industry.) The Chinese Producers Manufacturing Index (PMI) rose slightly to 42.2 in January from 41.2 in December, which is, of course, still indicative of a contraction and may well be the result of New Year's celebrations activities. Chinese exports fell by an annualized rate of 17.5% in January while imports fell by 43.1%. This was on the back of similarly dismal export numbers from Taiwan, Japan, and South Korea. The news was so grim that OPEC went further than the IEA--which had forecast demand growth in China slowing to 0.7% in 2009--and predicted that the Asia Pacific in general, and China in particular, would experience demand destruction in 2009. OPEC is in a really good place to know, given that its Middle Eastern members provide the region with the vast majority of their imports. Temasek Holdings, Singapore's sovereign wealth fund, reported that it had lost 31% of its value between March and November of 2008.

The news from Europe was also especially grim, with many analysts beginning to fear a redoubling of the financial firestorm precipitated by hard currency loans made to Eastern Europe of as much as $1.7 trillion which have likely gone bad as the debtor nation currencies have gone south. The OECD released its leading indicators report indicating a "strong slowdown" in China, the US, the eurozone, Canada, France, Japan, Germany, Italy, UK, India, and Russia. Industrial production numbers from eastern Europe were staggeringly bad--double digits bad--as was the decline reported for Spain in December of 19.6%. Ukraine's GDP, for example, fell at an annualized rate of 20% or fully one fifth in January. Unsurprisingly, Naftogaz recently announced that it might have trouble staying current with its payments to Gazprom for its gas deliveries, potentially reigniting the European gas crisis via a new shutting off of supply (though that is fairly unlikely, I would guess.) The most recent flash eurozone PMI readings for manufacturing fell to a record low 33.6 in February, the service PMI fell to a record low 38.9, and the composite index fell to 36.2 (where any number below 50 indicates a contraction.)

The numbers from the US were bad as well, with natural gas prices falling to $4/MMBtu on the back of declining industrial demand--GM alone closed most of its 22 plants last month. Unemployment data continued to be grim and reportedly employment law firms expect as many as 3 million layoffs in the first quarter. The port of Long Beach reported a 23% decline in container traffic in January from the year before. Stocks of crude continued to build, and build, and build some more on the back of the giant contango of 2008 which is, remarkably, still with us. Indeed, there is more oil in storage in Cushing, Oklahoma, than there is known storage space. The stocks situation has depressed the price of WTI (CL) to numbers far below what it traditionally trades versus other crudes which has caused a minor uproar (again) in the oil community, which complains that the landlocked Cushing prevents CL from being a useful global price benchmark for oil.

The last report from the EIA on stocks disposition for the week ended February 6 was 350.6 million barrels, well above the historical average range for the last five years, but still below the last peak seen in July 2007 of 352.6 million barrels. The giant contango continues apace, helped along, arguably, by the throughput limitations of pipelines out of Cushing, Oklahoma. Either way, the full curve contango (ending with the December 2016 contract) got steeper, at close of trading Friday with oil for delivery in December 2016 trading at a $33.64/b premium to the March 09 contract. The differential between oil for delivery in March 2010 and March 09 closed at nearly the exact same differential (a $12.08/b premium) as it saw when March 09 became spot on January 21st of $12.06/b premium. That said, the spread deepened dramatically from February 5 to February 12 before it recovered, and on February 12 you could have bought March 09 oil for $21.97/b less than the price of sweet light oil to be delivered in March 2010.

Crude and the euro both fell against the dollar during the course of CL Mar 09's spot life, with crude losing 10.6% of its value against the dollar and the Euro losing 2.7%.

Below you will find the substitutable product differentials. As you can see, spreads on March delivery heating oil and RBOB gasoline spiked to February 12, after which they fell just a bit below where they were when CL Mar 09 became spot. This is an indication that the furor over WTI price relationship to Brent is just a bit out of place. CL/WTI was never designed as a global price benchmark--after all, it is illegal to export crude oil from the US (except for some small very heavy sours from California which earned an exception in the export control statutes). The reason it is a global benchmark is because the US consumes a quarter of the world's oil--and it is a benchmark for US oil prices. In fact, most international term contracts are priced to Brent, or more particularly BWAVE (an average of Brent prices over time.) But contracts of oil imported to the US are often linked to CL, which is why it serves as an idea of global prices. The more meaningful complaint is that CL is trading at ahistorical differentials to other US crudes, but since there is no daily open source data on other US crudes, I will have to leave it at that.

At expiry, forward month substitutable product differentials are still healthy, though not as healthy for heating oil (which is nearly identical to diesel) as it was. Gasoline seems to have a relatively healthy premium to CL through September, when the driving season ends. Natural gas, which was trading at near parity to CL not so long ago, closed at at least a $15/b discount to CL on a Btu basis all the way through December 2011 delivery. (It traditionally trades at a pretty steep discount, so the differential itself is not evidence of a drop in industrial demand.)

The commitment of traders report for the February 17 suggests that the market is bullish, given that commercials are hedging against price declines and non commercials are net long. The percentage of traders net long or short has receded from the highs seen at the year's end to numbers much more typical historically, however.

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