The U.S. petroleum markets were just trying to adjust to a surprise increase in U.S. crude supply, when The Wall Street Journal reported that the Trump Administration is considering more than doubling proposed tariffs on a further $200 billion worth of Chinese goods to 25%, up from an original 10% tariff that was put in place before.
The report sent the dollar soaring and most commodities falling as the Trump Administration's hardball approach is scaring global markets. Yet, for oil and petroleum supplies, if you look beyond the weekly headlines and the numbers in the Energy Information Administration (EIA) reports, there are some potential long-term bullish developments. Yes, crude supply did increase by 3,803 million barrels as opposed to expectations of a three-million-barrel draw, but there was a lot more than meets the eye.
For example, the EIA reported that U.S. oil production fell by 100,000 barrels a day last week and an admission by the EIA that they have been perhaps overstating U.S. oil production in recent reports. In the EIA drilling activity report and as reported by Bloomberg “U.S. oil production may not be growing quite as fast as everyone thinks. The EIA said that American drillers pumped 10.442 million barrels a day in May -- about 300,000 fewer barrels per day than the Energy Information Administration had projected. In a report released Tuesday, the agency revised its weekly production estimates for the month, lowering average May output by 3%. The slide comes as the nation churns out record volume of crude, with explorers expanding the U.S. rig fleet by more than 110 since January.”
One of the reasons for the overstatement of U.S. production is a record amount of drilled but uncompleted wells, and production that was assumed but not completed due to logistical issues and piling constraints. This should be a concern because major reporting agencies are looking to the U.S. to replace the rapidly declining global production rates around the globe. On top of that, most of the week over-increase was due to issues on the Gulf Coast with a one-off drop in oil exports, and we did see supply in Cushing, Okla., fall by 1.338 million barrels.
Products were also stunned with a 2.983-million-barrel increase in distillate supply, but thank goodness because U.S. supply is still 11% below the five-year average. In fact, tightness in the global distillate market is a major upside risk for prices this winter. Reuters columnist John Kemp played out the case why the distillate situation is tight and why it is important.
In an article called “Distillates hold key to oil prices and global growth” Kemp writes that “Middle distillates, including road diesel and marine gasoil, are the critical link between global growth and the oil market. Distillates will be at the heart of three developments in the next two years that determine the direction of oil prices as well as the longevity of the current economic expansion...
“If sustained, global economic expansion and the associated growth in trade volumes will boost consumption of mid-distillates significantly, and lead to a further drawdown in available stocks. Pollution regulations scheduled to go into effect from January 2020 will further boost distillate consumption as a cleaner substitute for residual fuel oil in ocean shipping. Tightening distillate supplies will push up crude oil prices, resulting in a widespread increase in inflation, upward pressure on business costs, and tending to curb the cyclical expansion.”
While Kemp says that “It seems unlikely the global economy will still be growing strongly, while oil prices remain at comfortable levels for consumers at the same time as the shipping regulations go into effect at the start of 2020. Cyclical tightening of distillate markets plus new fuel regulations are inconsistent with moderate crude oil prices. Something will have to give. Either global economic growth will slow of its own accord, easing the pressure on distillate supplies, or crude oil prices will rise enough to force an economic slowdown.”
He adds that “Distillate markets are tightly coupled with the global economy, and the relationship likely runs in both directions. Changes in the level of manufacturing activity and freight movements have a direct impact on the consumption and availability of transport fuels, but changes in fuel prices also have a significant impact on input costs for a wide range of businesses as well as inflation. The outlook for distillate prices (and by extension oil prices) therefore depends critically on what happens to the global economy over the next 18 months. If the global economic expansion continues at its current rapid pace, distillate availability will become stretched, and oil prices will rise strongly.”
He also points out that “The scheduled implementation of new International Maritime Organization fuel regulations, at the start of 2020, will only exacerbate this tightness and could intensify upward pressure on oil prices even before they go into effect.” It's a must-read article.
The EIA total motor gasoline inventories decreased by 2.5 million barrels last week and are about 3% above the five-year average for this time of year. Finished gasoline inventories increased while blending components inventories decreased last week. Total products supplied over the last four-week period averaged 20.9 million barrels per day, up by 0.6% from the same period last year. During the past four weeks, motor gasoline product supplied averaged 9.7 million barrels per day, down by 0.9% from the same period last year. Distillate fuel product supplied averaged 3.9 million barrels per day more than the past four weeks, down by 5.9% from the same period last year. Jet fuel product supplied was down 1.7% compared with the same four-week period last year.