MARKET WATCH: Crude posts largest weekly gain in 2 years

Sam Fletcher
OGJ Senior Writer

HOUSTON, Feb. 28 -- Front-month crude posted the largest weekly gain in 2 years in the New York market as energy prices advanced slightly Feb. 25, with small gains in most categories partially offsetting losses from the previous session.

“After oscillating around $100/bbl throughout last week, West Texas Intermediate crude ended up 1% [for the day], just under the $100/bbl mark, and up 9% for the week,” said analysts in the Houston office of Raymond James & Associates Inc. “Not to be outdone, natural gas prices surged ahead…3.1%, closing above $4/Mcf on a strong short covering rally. Energy stocks rode the wave, with the Oil Service Index and SIG Oil Exploration & Production Index (EPX) up 3.4% and 2.9%, respectively, both outperforming the broader market which was up 1.1%.”

Energy prices increased because 850,000 b/d of Libyan crude production (1% of global supply) was shut in due to the recent turmoil in that country, they said.

“The Libyan crisis currently presents the most serious geopolitical risk to global oil supply in recent memory,” said Raymond James analysts. “The oil market is fearful not just of continued Libyan production disruptions but the risk of them spreading to Algeria and, in an ‘Armageddon scenario,’ the Arabian Peninsula. While Libya's political endgame remains far from clear, the rest of the Organization of Petroleum Exporting Countries could cope even with a total Libyan shutdown. A concurrent Algerian shutdown would be difficult but generally manageable (albeit with much higher prices).”

However, they said, “There is simply no precedent for a Saudi-sized supply disruption, and to say that the oil market would go berserk in such a situation is an understatement. All in all, we wouldn't lose sleep over this extreme-case scenario, but it would seem that $100/bbl WTI (add $10 for Brent) is here to stay, courtesy of the Middle East.”

James Zhang at Standard New York Securities Inc., the Standard Bank Group, reported, “The term structures for both WTI and Brent weakened after Brent traded Feb. 24 at the steepest backwardation since mid-2008. This is in-line with our expectations…that precautionary demand was taking over on the buying side for crude, while the product markets show a subdued real demand picture.”

He noted, “The political turmoil in Libya is dragging on and set to deteriorate. In the meantime, it was reported over the weekend that the unrest has now spread to Oman. According to the Energy Information Agency, Oman exports 700,000 b/d oil, about half the export volume of Libya. Although there are no signs that oil production and exports in Oman have been affected, the latest development will only fuel greater concerns over the geopolitical risks in the Middle East and North Africa region (MENA).”

To make matters worse, Zhang said, “Most Libyan ports have been closed due to bad weather, besides problems over staff shortages and production outages. Our view is that the market will be able to fill in the supply gap in the short term, but not without significant adjustment from the refining sector. Nevertheless, the market is likely to be biased towards the upside due to the unpredictable nature of the political unrest.”

Refining outlook
Anuj Sharma, research analyst at Pritchard Capital Partners LLC in Houston, said, “Although Saudi Arabia has reiterated its commitment to put more supplies into the market, the challenge is that Libyan production is of sweeter grade than what could be replaced by the Saudi supplies; and the European refineries which process low-sulfur Libyan crude would most likely not be able to process higher-sulfur Saudi crude. Hence, if the Libyan crude stays offline for extended period, it could create a severe shortage of sweet crude in the global market.”

Paul Sankey at Deutsche Bank Equity Research for North America, cautioned, “Don't make the mistake of thinking that Libya is bad for refining.” He claims oil prices need to be sustained above $120/bbl to “finally change behavior.” Meanwhile, he said, “The effect of losing Libyan Brent-lookalike crude has served to further pressure Brent vs. WTI, and implies yet higher US oil product exports.”

Sankey said global oil prices are not yet high enough to destroy demand. “If demand is not yet at the point of destruction, the refining trade can keep working, especially if one takes the view that the loss of Libyan barrels will tighten Atlantic Basin product markets. Libya has been a stable, long term, nearby source of light sweet crudes for European refiners, notably the Italians. Replacing those barrels with a somewhat heavier, sourer, and more distant Saudi supply will require more tankers, more time, and yield less transport fuels. That supports a bullish [US] Midcontinent and Gulf Coast refining stance. By contrast this is highly challenging to East Coast and northwest European refiners, using light sweet Brent priced grades,” he said.

Despite an effective increase of petroleum products exports, Olivier Jakob at Petromatrix, Zug, Switzerland, said, “The US still carries in the first quarter of 2011 stocks of products that are at a multiyear high for the season. There is not enough internal demand for the US refining sector and moving to a model of net exporter of products has not managed to reduce the domestic stock levels. This also means that more than ever the US refining sector is dependent on demand growth in Latin America, and that is where demand elasticity to prices starts to be a warning flag for the US refiners.”

On a yield basis the US is running 2.2 million b/d of refinery runs for distillate exports and 1.1 million b/d for gasoline exports. Jakob said, “Basically, if the US refining system was focused on the domestic rather than the international markets, it could be running with at least 1.1 million b/d less crude oil in its refining system. The US imports currently about 1.1 million b/d of crude oil from Saudi Arabia. Therefore if it was to focus on the domestic market rather than exporting products to other nations, the US could today cut totally its imports of crude oil from Saudi Arabia and not face any domestic supply shortages. The dependency of the US on oil from the Middle East is therefore much lower than suggested by the crude oil import numbers, given that a large portion of crude oil imported in the US is being processed for the export of products, not for the domestic market.”

Jakob said, “With the rise in the price of oil many economists have been updating their estimates of the impact of oil prices on US gross domestic product, but many are running underestimations in their model as they are using the price of WTI, which is $15/bbl below the value that is paid by the consumer.”

In other news, Jakob said, “The focus of last week was all on Libya, but we continue to watch the record yields on Portuguese bonds, and they are dangerously close to the 8% mark. Ireland decided over the weekend to kick out the ruling party (worst result in 85 years). The winning parties had promised that they would renegotiate the European Union-International Monetary Fund bailout; hence the peripheries of Europe will start to be again interesting to watch.”

Energy prices
The April contract for benchmark US light, sweet crudes regained 60¢ to $97.88/bbl Feb. 25 on the New York Mercantile Exchange. The May contract rebounded 62¢ to $99.36/bbl. On the US spot market, WTI at Cushing, Okla., was up $1.91 to $97.89/bbl as it tried to realign itself to the front-month futures price.

Heating oil for March delivery reclaimed 5.36¢ to $2.93/gal on NYMEX. Reformulated blend stock for oxygenate blending for the same month continued climbing, up 2.28¢ to $2.74/gal.

The April natural gas contract jumped by 13.3¢ to $4.01/MMbtu on NYMEX. On the US spot market, however, gas at Henry Hub, La., continued to fall, down 4¢ to $3.79/MMbtu. Sharma at Pritchard Capital said, “Winter is now 81% complete and has been 5% colder than normal, creating almost 210 bcf of additional demand so far.” Based on gas-home-weighted-customer degree-days, temperatures last week were 5% warmer than normal, 4% warmer than last year, but 12% colder than the prior week.

In London, the April IPE contract for North Sea Brent crude continued its advance, up 78¢ to $112.14/bbl. Gas oil for March dropped $3.75 to $921.25/tonne.

The average price for OPEC’s' basket of 12 reference crudes fell $2.70 to $108.31/bbl. So far this year, the OPEC basket price has averaged $96.16/bbl.

Contact Sam Fletcher at samf@ogjonline.com.

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