The petroleum complex traded in a firm fashion as values responded to reports that Saudi Arabia was exploring further action to shore up weak oil prices. Given the markets recent weakness and oversold condition active short covering and pre-weekend book-squaring helped rally values which saw values register gains of over 2.00 per barrel in crude. The reports underlie the rising concern within the oil market that despite the production cuts and heightened geo- political tension the market has seen a steady erosion in values which reflects the growing influence from non-OPEC production levels and sluggish demand growth. The IEA in their most recent report indicated demand in May had fallen by 160 thousand barrels and that growth in the Jan-May period was only 520 tb/d, the lowest increase for the period since 2008. Of concern is the fact that China was the sole source of significant growth and given the trade tensions and weak yuan cannot be relied upon as a steady source of further demand growth.
The key question for the market looks to be how committed Saudi Arabia along with other members of OPEC+ are to cutting production further if needed to support values. With US production levels expected to expand further and reports suggesting US barrels are displacing some origins such as Nigeria and Saudi Arabia, it appears that as pipeline capacity expands in the Permian Basis even greater pressure will emerge helping undercut the rally attempt. In addition, Russia does not appear to be providing unconditional support to the agreement but instead is suggesting that they had already incorporated weak demand into current policy.
The growing recognition that current policy of OPEC+ might not be enough and that demand and production trends are suggesting that OPEC is fighting an uphill battle should limit the upside for values within the complex unless further cuts are pursued and market share is relinquished. From our perspective, this appears to be an untenable situation that will eventually undercut the rally attempt and lead to a weaker market longer term that will be only turned around by a renewed expansion in demand growth, and reduction in E&P investment.
Although demand concerns remain a limiting influence on the upside, the expansion in output outside of OPEC remains of utmost concern. With growth likely to be maintained by non-OPEC producers at a time when OPEC is producing well below capacity, the potential that shut-in production will eventually be available to the market at a time when growth in demand will likely be sluggish has the potential to be a source of long-term weakness.
On the upside, resistance should begin to emerge near the 56.00 level basis Sept provided no concrete move to cut production is made with potential for values to move back down and reach into the 47.00-48.00 area basis Sept particularly if fresh evidence grows that the economy on a global basis is slowing and pressure remains on equity values.
The breakdown in the Oct RBOB Crack which reached 9.50 today suggests demand concerns persist as gasoline stocks continue to build given the high refinery utilization rates and that eventually the weakness should be reflected in Crude on weak margins and lower refinery inputs.
The Nat gas market continues to struggle as the market responds to moderate weather conditions. US consumption in the current week is expected to reach 90.7 off by .8 mcf from the prior week. The weaker demand is helping limit fresh buying on ideas that the inventory situation will continue to improve ahead of the heating season leaving stocks at normal levels. Although LNG shipments are expected to increase, it appears some concern is building over the weak LNG prices evident overseas and prospective arbitration over longer term contract prices. Early expectations for the EIA report next week are for an injection of 55 compared to a five year average of 49 and 35 last year. Overall the market is looking for fresh impetus but looks poised to hold near the 2.00 level on the appearance the bulk of bearish news appears to have been discounted and fears might build over potential production shut-ins.
Charts Courtesy of DTN Prophet X
Futures and options trading involve significant risk of loss and may not be suitable for everyone. Therefore, carefully consider whether such trading is suitable for you in light of your financial condition. The views and opinions expressed in this letter are those of the author and do not reflect the views of ADM Investor Services, Inc. or its staff. The information provided is designed to assist in your analysis and evaluation of the futures and options markets. However, any decisions you may make to buy, sell or hold a futures or options ADMIS position on such research are entirely your own and not in any way deemed to be endorsed by or attributed to. The authors of this piece currently maintain positions in the commodities mentioned within this report. Charts Courtesy of DTN Prophet X, EIA.
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