MARKET WATCH: Inventory increases, weakening euro pull down energy prices

The price of the front-month crude oil contract dropped 1.4% Jan. 11 in the New York futures market as the euro fell to a 16-month low against the dollar and the US Department of Energy reported bigger-than-expected gains in US oil inventories.

“Natural gas fared even worse, trading down by a whopping 6% for the session to its lowest level in over 2 years,” said analysts in the Houston office of Raymond James & Associates Inc. Taking their cue from crude and gas, the Oil Service Index and SIG Oil Exploration & Production Index were down 1.3% and 3.4%, respectively.

“US natural gas is under very severe pressure, said Olivier Jakob at Petromatrix in Zug, Switzerland. “It is falling towards the lows of 2009 and on a dollar/MMbtu basis will soon be priced below US coal.”

The equities market was down in early trading Jan. 12 after the US Department of Labor reported a seasonal increase in initial applications for unemployment benefits last week as temporary workers hired for the holidays were laid off. New applications increased 24,000 to a seasonally adjusted 399,000, the highest level in 6 weeks. It followed 3 months of declines to the lowest level in 3 years. However, the total number of workers receiving unemployment benefits increased by 111,000 to 7.3 million, the Associated Press reported.

According to an AP survey, the economy gained 1.6 million jobs last year, up from 940,000 in 2010. Economists forecast roughly 1.9 million more jobs will be added this year. However, 8.7 million US workers were laid off during the recent recession, and more than 13 million are still unemployed. AP reported “millions more” have given up looking for jobs and are no longer counted among the unemployed.

In other news, the government reported a meager 0.1% increase to a seasonally adjusted $400.6 billion in sales during December, the weakest gain in 7 months. Still, it was the second consecutive month sales exceeded $400 billion, after a government-revised 0.4% gain in November that doubled the initially reported increase.

Excluding automobiles, other sales were down 0.2% in December, the first such drop since May 2010, AP said.

US inventories

The Energy Information Administration reported Jan. 12 the withdrawal of 95 bcf of natural gas from US underground storage during the week ended Jan. 6, exceeding Wall Street’s consensus for an 89 bcf draw. That left 3.38 tcf of working gas in storage—398 bcf more than in the comparable period a year ago and 491 bcf above the 5-year average.

EIA earlier reported commercial US crude inventories jumped 5 million bbl to 334.6 million bbl in the week ended Jan. 6, surpassing the consensus for an increase of 1 million bbl. Crude inventories are above average for this time of year. Gasoline stocks climbed 3.6 million bbl to 223.8 million bbl compared with analysts’ expectations for a 2.3 million bbl gain. Both finished gasoline and blending components increased last week. Distillate fuel inventories escalated by 4 million bbl to 147.6 million bbl. A 2.3 million bbl gain also was forecast for that category (OGJ Online, Jan. 11, 2012).

“In total, inventories increased 12.6 million bbl, over twice the consensus forecast,” Raymond James analysts said. “A jump in imports didn't help, as warm winter temperatures and weak consumption patterns continue to weigh on demand. Total petroleum product demand was down 6.7% year-over-year on a 4-week moving average basis. At the end of the week, total supply stood at 48.3 days of demand or 1.9 days above last year at this time. At Cushing, Okla., inventories fell for the fourth straight week and are now down 8.3 million bbl year over year.”

Jakob said, “The total implied US oil demand on the 4-week average is now 2.9 million b/d lower than in the same 2008 week and 1.3 million b/d lower than a year ago. The drop in US oil demand is simply huge.”

The International Energy Agency in Paris is scheduled to publish its updated world supply and demand report Jan. 18 and “will have to revise its US oil demand numbers [down by] at least 300,000 b/d in the fourth quarter of 2011 and the first quarter of 2012,” Jakob said.

“Given that Saudi Arabia is producing at close to 10 million b/d and that Libya is coming back on stream relatively quickly, this will translate into global stock builds in the first and second quarters unless Iranian crude oil flows are more severely cut. The global stock build is already starting to show in Iranian stocks afloat and in the US,” he said.

Embargoing Iranian crude

Jakob said, “While the idea of a European oil embargo is to weaken Iran economically, we should keep in mind that current oil prices are way over the price needed by the budgets of the Cooperation Council for the Arab States of the Gulf or of Iran. The [2011] budget of Iran was drawn with an oil price of $81/bbl, not of $113/bbl. If Iran is not able to send to other customers the oil that it would not sell to the EU, it could lose 25-30% of its export volume, but with oil prices 40% higher than its budget, it will probably not be enough to make a big difference for Iran. Sure, it’s a lost revenue opportunity but not a threat to the regime. To have an impact on Iran, the oil embargo needs to come together with much lower oil prices. What is required to have an impact on the regime is to have Iran lose a third to a half of its export volume and oil prices down to $60/bbl.”

Moreover, he said, “Given that the year has already started with very high prices, we calculate that to balance its recently announced budget at 10 million b/d of production Saudi Arabia only needs to have crude oil average $62/bbl for the balance of the year. Having crude oil at $60-65/bbl would therefore be a formidable boost for the world economy, would put Iran under extreme pressure when combined with a partial embargo, and would not be a budgetary issue for Saudi Arabia.”

However, there is no indication Saudi Arabia is ready to do “price-wise” what it takes for the embargo on Iran to be effective, Jakob concluded. He said, “Achieving such price targets would require Saudi Arabia to push the oil out aggressively, force it at a discount into storage layers, and deviate from the ‘we will sell what the customer wants’ that Saudi is still indicating as a policy. At $130/bbl the customers will not want much oil because oil demand is already poor and at that price will be even poorer.”

He said, “Pushing oil down to $60/bbl will also be problematic with other [members of the Organization of Petroleum Exporting Countries] as Saudi will have to work against the non-GCC OPEC members and will expose itself to a more direct conflict with Iran. Much of the effectiveness of the oil embargo against Iran will depend on the action of Saudi Arabia, but if Saudi Arabia is not great friends with Iran it is also not great friends with Israel, and this means that Saudi Arabia is currently walking on a very fine line.”

Jakob said, “The European Union-US embargo on Iran is a strong political statement, but in terms of effectiveness the revenues of Iran would have been hurt more if the EU and US had let supply and demand work its way into lower prices. Given that at current prices Iran will not go down under a partial embargo, it will likely do more posturing and provocative acts, and that will still leave military intervention as an open if not the only solution to control it.”

US Sec. of the Treasury Timothy Geithner is seeking pledges from major consumers of Iranian oil in support of the impending embargo. “While Japan and Korea have signaled a willingness to support a move away from Iranian oil the Chinese have refused to do so,” said analysts at Pritchard Capital Partners LLC. “China’s Premier Wen Jiabao is visiting Saudi Arabia, the UAE, and Qatar Jan. 14-19 potentially looking for additional alternative sources of supply beyond Iran. With EU ministers meeting on Jan. 23 to work out further embargo details, China’s importance to Iran increases. Expect the Chinese to drive hard bargains for further purchases of Iranian crude. Overall, a black market for discounted Iranian oil is an interesting market dynamic to ponder.”

Meanwhile, Jakob said, markets also need to focus on Nigeria in the short term. “As long as the Nigerian government does not reverse the decision to remove subsidies on gasoline and as long as the oil unions continue to threaten to strike, there will be some risk going short into the weekend,” Jakob warned. “Today we will also have to watch the euro-dollar [valuation] and its reaction to the European Central Bank meeting on interest rates.”

Energy prices

The February contract for benchmark US sweet, light crudes dropped $1.37 to $100.87/bbl Jan. 11 on the New York Mercantile Exchange. The March contract fell $1.35 to $101.09/bbl. On the US spot market, West Texas Intermediate at Cushing was down $1.37 to $100.87/bbl.

Heating oil for February delivery declined 3.68¢ to $3.06/gal on NYMEX. Reformulated stock for oxygenate blending for the same month decreased 0.95¢ to $2.76/gal.

The February natural gas lost 16.7¢ to $2.77/MMbtu on NYMEX. On the US spot market, gas at Henry Hub, La., dropped 18.3¢ to $2.78/MMbtu.

In London, the February IPE contract for North Sea Brent retreated $1.04 to $112.24/bbl. Gas oil for January was down $3 to $971/tonne.

The average price for OPED’s basket of 12 benchmark crudes decreased 8¢ to $112.90/bbl.

Contact Sam Fletcher at samf@ogjonline.com.

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